Case Study

On

Polly Peck

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 Course Name: Corporate Governance

Course Code: F-630

Semester: Fall 2019

Submitted to:

Professor Dr. A. A. Mahboob Uddin Chowdhury

Professor, Department of Finance

Faculty of Business, University of Dhaka

Submitted by:

Name ID
Tahmina Chowdhury 40059
Harunur Rashid Robin 39041
Akramul Haque Yeasin 39032
Md. Shafayet Hossain Bhuiya 39008
A. Md. Toasin Mollah 39020

DATE OF SUBMISSION: 4st December, 2019

Case Summary
In May 1941, Asil Nadir was born in a Turkish Cypriot family. In 1959, Nadir’s family
immigrated to London. Asil Nadir joined the family business and set up a clothing company
called Wearwell. Wearwell was floated on London Stock Exchange.

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In 1980, Nadir gains control on Polly Peck. Niksar, a bottling plant was set up in Turkey in 1982.
Vestel joint venture (with Thorn - EMI) in 1983. In 1985, Company name changed to Polly Peck
International and headquarters moved to Berkeley Square, London. Polly Peck buys Del Monte
and 51% stake in Sansui in 1989. In 1990, Nadir announces private bid for Polly Peck (August).
In October 1990, Polly Peck, a large UK quoted company, was placed into administration. At the
beginning of August 1990 the share price had stood at 418p, but by 20 September 1990 it had
fallen to 108p.

This represented a loss of nearly 75 per cent of their value in under two months. At this point,
trading in the shares was suspended by the London Stock Exchange and Polly Peck collapsed
with debts estimated at £1.3bn. The Serious Fraud Office (SFO) prepared a case against Asil
Nadir, chairman and chief executive, accusing him of theft and false accounting, but before the
trial could get under way Asil Nadir dramatically fled the UK in 1993 for the comparative safety
of northern Cyprus.

Question: 01

Discuss the advantages and disadvantages of allowing one individual to acts

both chairman and chief executive of a quoted company.

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Solution
A major problem of corporate governance is to analyze whether the chief executive officer of a
quoted company should be allowed to act as a chairman. There are several large corporations
around the world having this scenario to modify the configuration of their corporate governance.
Some companies think that the CEO and the chairman can be the same person. Behind this
thought, the logic might be the single leadership and not to hire a CEO from outside to spend less
which ultimately causes to minimize agency problem. Conversely, some companies believe that
playing the role of CEO and chairman by two different person is more important to perform
respective responsibilities perfectly and achieve the goal.

All quoted corporations are required to have a board of directors that is tasked with overseeing
corporate activities and protects the interests of the company's shareholders. The board is
conducted by a chairman who has influence over the direction of the board. In many companies,
the chief executive officer (CEO), who holds the top management position in the company, also
serves as chairman of the board. This is often the case with companies that have grown rapidly
and still retain the initial founder in those roles.

There are some advantages and disadvantages of having a person who plays dual role of CEO
and the Chairman of a quoted company.

Advantages

The advantages of allowing a single individual to act both as CEO and Chairman are very
obvious when we consider the day-to-day operations of a corporation. The CEO of a corporation
has the extended knowledge of having done the activities properly. The unified responsibilities
can make him more efficient as he already knows the strengths and weaknesses of the
corporation. He can lead the subordinates accordingly and they can also grow confidence in them
after getting absolute direction.

 Clear direction

A board of director who is also the CEO does have enormous power within a company. This is
happened because the presence of CEO and BOD at the same time which helps to have a clear
direction of a single leader. Here all the activities can be undertaken by one person which
ultimately decrease agency costs.

 Efficiency and Effectiveness

When a BOD is the CEO, the company can have the advantage of not hiring the CEO from
outside and thus the company can be efficient in minimizing costs. The presence of CEO and
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BOD at the same time can give the substantial power to make decision effectively to attain the
goals.

Disadvantages

 Misuse of the power

A strong power of being CEO and BOD is good because a person can create a clear direction of
a single leader but at the same time it also has some disadvantages. If a person has enormous
power, there is a huge chance of misusing that power like here Nadir was both the chairman and
CEO and he was investing blindly without any regard and that was the effect of this investment on their
company.

 Lack of transparency

If a person becomes the CEO and chairman, he can get the opportunity to hide whatever happens
in the company and thus transparency is not maintained properly.

 Corporate governance

One of the board’s important role is to monitor the operations of the company and to ensure that
it is being run in conjunction with the mandate of the company and the will of the shareholders.
As the CEO is the management position responsible for driving those operations, having a
combined role results in monitoring oneself, which opens the door for abuse of the position. A
board led by an independent chair is more likely to identify and monitor areas of the company
that are drifting from its mandate and to put into place corrective measures to get it back on
track.

 Audit Committee Independence

The audit committee consists of only external board members. This means that no member of
management can sit on the audit committee. However, because the committee is a sub-group of
the board of directors and reports to the chair, having the CEO in the chair role limits the
effectiveness of the committee.

A company’s success depends on the efficiency of the chief executive officer and the board of
directors or administration. The stakeholders want them perform according to the needs of
company with accountability and transparency. By analyzing the advantages and disadvantages a
company might go for the separated CEO and chairman for greater interest of the corporation
and stakeholders.

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Question: 02

Should the banks have been more cautious in lending to Polly Peck and to Asil
Nadir?

Solution
Yes, the banks should have been more cautious in lending to Polly Peck and to Asil Nadir. First,
we need to know the liquidity problems faced by Polly Peck.

Polly peck’s liquidity problems:

We have seen that the share price of Polly Peck collapsed and associated negative publicity had
caused liquidity problems for the parent company. These liquidity problems were related to the
parent company rather than to operating subsidiaries which had a very successful trading record.
It was reported that banks that were holding Polly Peck shares, as collateral against loans
advanced to Asil Nadir, dumped 10m shares on the market and this precipitated a collapse in the
company’s share price. Polly Peck was facing difficulties remitting cash from northern Cyprus.
Asil Nadir was desperate to dispose of assets in Turkey and northern Cyprus, but appeared to be
facing difficulties in getting potential purchasers interested in bidding for Polly Peck’s
businesses. Nadir was not succeeding in selling anything there. Although Polly Peck was the
largest employer in northern Cyprus with 8,000 employees, it was feared that there would be
further job losses of employees.

The reasons for which banks should have been more cautious in lending to Polly Peck are-

1) Asil Nadir was both chairman and chief executive of Polly Peck Company at the same time.
He was a whimsical person and some of his decisions were volatile. Sometimes all the major
decisions were taken by Asil Nadir without discussion with other board of members. For this
reason, the banks should have been more cautious in lending to Polly Peck and to Asil Nadir.

2) It was difficult for a single person properly operating and monitoring many businesses in the
different location. So, the banks should have been more cautious in lending to Polly Peck and to
Asil Nadir.

3) Polly Peck had made investment in weak currency against stable and strong currency which
depreciated the value of the company and it continuously faced exchange losses. For this reason,
the banks should have been more cautious in lending to Polly Peck and to Asil Nadir.

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4) Polly Peck’s most part of the revenue was generated in Northern Cyprus which international
status was unclear. However, Polly Peck’s much revenue was generated in Turkey which shared
border with Iraq. On 2 August 1990 Iraqi armed forces attacked Kuwait, then its revenue faced
additional element of risk. So, the banks should have been more cautious in lending to Polly
Peck and to Asil Nadir.

5) Polly peck issued shares, right shares, and debt for its financing purpose. Additional loan
amount would make Polly Peck and Asil Nadir defaulter.

6) It faced liquidity crisis in 1 October 1990. However, Mr Nadir was not successful in selling
anything including his personal assets. It was clear that if the bank issued loan for Polly Peck and
Asil Nadir, there would be chance of becoming defaulter. For this reason, the banks should have
been more cautious in lending to Polly Peck and to Asil Nadir.

Before providing loan, every bank should determine the credit worthiness of potential borrowers
through five Cs (Character, Capacity, Capital, Collateral, and Condition). The banks had
aware of activities of Polly Peck and Asil Nadir by the newspapers and several reports. Polly
Peck and Asil Nadir violate the five Cs which are given below in the following table:

NO. Five Cs Violation of five Cs in this

a. Character: Character refers
to a borrower's reputation and
past b behavior of the
borrower.
b. Capacity: Capacity measures
a borrower's ability to repay
the loan by comparing
income against debts.
c. Capital: Capital is the
amount of money in which
bank considers the amount of
contribution of borrower. If
the borrower contributes the
large amount of capital in
investment, it may reduce the
chance of default.
d. Collateral: It refers to fixed
asset position of the
company. Collateral helps to
secure the loan such as
case
Up to 1989, it was assumed
that its character was good
but in the mid-1990, its
character faced question.
Polly Peck and Asil Nadir
had been lost capacity in
October 1990.
In 1990, Polly Peck and Asil
Nadir had big chance to
become defaulter, if they
would get capital from bank.
Polly Peck and Asil Nadir did
not have sufficient collateral
against loan amount.

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 property or large assets.
e. Condition: Condition refers
to economic condition, the
interest rate and amount of
principal.
Up to 1989, it was assumed
that Polly Peck and Asil
Nadir’s condition were good
but in the mid-1990, they
were unable to meet the
condition.

Outcome of five Cs: The violation of five Cs created negative impression about Polly Peck and
Asil Nadir among banks. For this reason, the banks should have been more cautious in lending
to Polly Peck and to Asil Nadir.

Question: 03

What do you believe are the main lessons that can be drawn from the collapse
of Polly Peck?

Solution

In October 1990, Polly Peck, a large UK quoted company, was placed into administration. At the
beginning of August 1990 the share price had stood at 418p, but by 20 September 1990 it had

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fallen to 108p. This represented a loss of nearly 75 per cent of their value in under two months.
At this point, trading in the shares was suspended by the London Stock Exchange
and Polly Peck collapsed with debts estimated at £1.3bn.

Polly Peck had a very good position in the stock market but overnight it had collapsed because
Asil Nadir had used some accounting trickery, false accounting and he stole from the company.
In the early 1980s, some financial journalists began to question the quality of information in
Polly Peck’s financial statements about current operations.

There was no geographical breakdown of profit and turnover in the accounts. The London Stock
Exchange’s rules demanded that quoted companies give such a breakdown, but Polly Peck had
obtained a special exemption from the Stock Exchange on the grounds that
giving such information would be ‘commercially damaging’. This vacuum, said the Observer,
‘only serves to encourage speculation, if not suspicion’.

The lesson to learn here is that, the balance sheet is the most important statement a firm
produces. Here are two more balance-sheet warning signs to watch out for.

1. Unbelievable High Growth of Current Assets:

A current asset is a company's cash and its other assets that are expected to be converted to cash
within one year of the date appearing in the heading of the company's balance sheet. Current
assets include cash, cash equivalents, accounts receivable, stock inventory, marketable securities,
pre-paid liabilities, and other liquid assets.

Usually these move in line with sales. If a business boosts sales by 5% in its profit-and-loss
account, with the same terms of trade with its customers and suppliers, stock and receivable
balances should move up by around 5% too. When there is a big unexplained jump in stock for
resale or in account receivables with no similar change in sales than it will raise an alarm. It can
mean that something is not right in their balance sheet. The balance sheet is manipulated.

2. A Shrinking or Diminishing Balance Sheet:

When the Polly Peck collapsed, we can see that unexplained profit with shrinking balance sheet.
So we need to look out for the net assets to find out the net position for the company. This sums
up all a firm’s assets, both long and short term (what it owns and is owed by other people) and
deducts all liabilities (what it owes other people, whether trade suppliers, banks or whoever) to
give a net position. It tells us the firms’ overall wealth. If the wealth get diminish period after
period than it tells us that company is not doing well. For a better company net asset will
increase period after period.

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Question: 04

Identify the stakeholders who were most disadvantaged by the collapse of

Polly Peck.

Solution
Stakeholders are individuals or groups who have interest in activities of the company and power
to influence the strategy of the company. Stakeholders are in an exchange relationship with the
company. They supply significant resources to the organization. They expect that their interests
will be satisfied by the company. Some examples of key stakeholders are creditors, directors,
employees, government (and its agencies), owners (shareholders), suppliers, unions, and the
community from which the business draws its resources:

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Different stakeholders possess different levels of interest and power to influence the company.
More powerful stakeholders have more interest-

Types of stakeholders Nature of Power to influence Level of interest in

stakeholders strategy activities

Shareholders (Major Internal stakeholders High High

stakeholder)

Managers Internal stakeholders Moderate Moderate

Board members Internal stakeholders High High

Employees (Major Internal stakeholders Low Moderate

stakeholder)

Creditors External stakeholders Moderate Moderate

Customers (Major External stakeholders Low Moderate

stakeholder)

Suppliers External stakeholders High High

Governments External stakeholders High High

General public External stakeholders Low High

Local communities External stakeholders Low High

In this case, the stakeholders were most disadvantaged by the collapse of Polly Peck, they are
identified as below:

1. Shareholders : Losing share capital

Beginning of August 1990, share price of Polly Peck was 418p. At 20 September 1990, the
price had fallen to 108p.The shareholders were facing a loss of around 75% of the value
within 02 months.
In May 1991, the administrators had predicted that the shareholders would obtain 52 pence
for every £1 but the administrators’ costs amounted to £8.4m. In British corporate history

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that the procedure of administration has been a complete disaster because the administrators’
costs were greater than the recover money from Polly Peck’s.

2. Creditors: Losing debt capital

Banks was holding shares as collateral against loan. 16m shares were sold by financial
institutions before the share price postponement. The largest single sale being 7.9m shares
sold by Citicorp investment bank on 20 September 1990.

In May 1991, the administrators had predicted that the shareholders would receive 52 pence
for every £1 but the administrators’ costs amounted to £8.4m. By 1993, it seemed that the
creditors would receive only 4 pence in the pound.

3. Employees:

a. Dismissing job: Asil Nadir had suddenly Termiated a number of key staff. The
terminated staff included Martin Helme (Finance director of Sunzest which was a
subsidiary of Polly Peck), Martin Brown (Sunzest executive) etc.

b. Becoming jobless: Polly Peck was the largest employer in northern Cyprus with 8,000
employees. It had more than 100 employees redundant in Cyprus. The employees were
feared that they would be jobless. Eventually, their prediction became factual by the
collapse of Polly Peck.

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Question: 05

Discuss the proposition that it is not in a quoted company’s best interests for
the director to own a substantial proportion of the share capital.

Solution
Now a days it is most debated topic for the quoted company. In this situation directors are
owned substantial proportion of the share capital. So there is question arise, what is
substantial? In a quoted company, anything over 5% would certainly be substantial. In this
case Asil Nadir private share-holding in Polly Peck amounted to 26%.

This is the question for the quoted company, is it best interest for the quoted company or not?
When directors are hold substantial proportion of share capital then what happened?
Certain more fundamental matters relating to a company require a special resolution. A special
resolution is a resolution of the company’s shareholders which requires at least 75% of the votes
cast by shareholders in favor of it in order to pass.

So, If director hold 75% or more of the shares, he/she can ensure the passing of a special
resolution.
If he/she hold more than 25% of the shares you can block the passing of a special resolution.

In this case Asil Nadir private share-holding in Polly Peck amounted to 26%. So that Asil Nadir
tries to take Polly Peck into private group but this is not good for quoted
company. This action makes the investment more risky than before.

Where no special resolution is required, an ordinary resolution may be passed by shareholders

with a simple majority – more than 50% – of the votes cast.

Ordinary resolutions are:

• Approve a final dividend;

• Appoint or remove directors (in addition to the directors’ ability to appoint co-directors);

• authorize the directors to allot shares (and to renew, revoke and vary such authorization);

• Determine the rights to be attached to any new shares which are issued;

• Approve long-term service contracts (lasting more than two years) with directors;

• Approve loans to directors or substantial property transactions with directors (or their
connected parties);
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• Pay compensation to a director for loss of office;

• Ratify breaches of duty by a director;

• Authorize political donations by the company;

• Appoint or remove auditors or agree limitations on their liability;

• Subdivide or consolidate shares;

• Issue bonus shares to shareholders.

So it is not in a quoted company’s best interests for the directors to own a substantial
proportion of the share capital.

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