EOH’s state capture catharsis

Stephen van Coller and his team at EOH are hoping that their appearance at the Zondo commission into state capture marks an end, at least symbolically, to a brutal two-year investigation into compromised public sector contracts.

"The evidence given before the Zondo commission over the past week sees us firmly close the door on the old EOH," Van Coller told shareholders at a presentation of the company’s annual financial results last week.

"While ENSafrica has been mandated by the board to keep collaborating, I’m personally relieved that law enforcement agencies can now take this forward and we can give a hundred percent focus to growth of the business."

EOH’s management team has had to try to salvage the company’s reputation, figure out which contracts were suspect and deal with a mountain of debt accumulated under its previous acquisition-obsessed executive.

The ENSafrica probe found R1.2bn worth of suspicious transactions, mostly involving public sector contracts.

In the financial year ended July, it was left with eight "problematic" legacy contracts, five of which were settled. One remains in arbitration, one is in the final stages of being wound up and one contract ends in April 2021.

The public sector, however, remains "meaningful" in EOH’s life and still accounts for as much as 21% of revenue — the biggest single contributor by industry after financial services.

Van Coller and his team appear to be on course: headline losses per share narrowed 72% to 495c, from 1,750c previously, for the year ended July.

Revenue was down 25%, at R11.27bn, and the company closed the period with R946m in cash.

Outsiders, however, have their reservations as to whether the previous chapter has indeed been closed.

Peter Takaendesa, head of equities at Mergence Investment Managers, says: "It’s difficult to say so when there are still unresolved legacy problem contracts — of overcharging public sector clients — and the public sector continues to be a large customer of the group.

"He [Van Coller] is clearly trying to re-establish client confidence in the group’s service offering as well as change the culture within the group, but this normally takes time after a business has gone through what EOH experienced over the past few years."

Irnest Kaplan of Kaplan Equity Analysts echoes the sentiment, saying: "At this stage … it certainly looks like they are moving in the right direction. They’re getting smaller and making fewer losses. So that is good."

But "there’s still a lot of work to do for EOH to get back to a healthy position. Covid has been tough for them and their clients," he adds.

"Hopefully things can improve further in the year ahead."

A big focus for EOH has been lowering debt, CFO Megan Pydigadu tells the FM.

As part of this effort, she says, the company is not considering any new acquisitions until it sorts out its capital structure — the combination of debt and equity used to finance operations and growth.

For EOH, this structure is one-third equity and two-thirds debt. Pydigadu says their aim is to reverse this, so that equity is 70% and debt is 30% — a process likely to take two to three years.

Progress has been made on this front. The group’s debt has been halved from about R4bn when Van Coller and the new team took over, to R2bn at the end of the reporting period.

Pydigadu says they are working to cut this by another 50% before they are comfortable.

Van Coller is more blunt.

Until the group has the right capital structure, he says, "we’re never going to get back to a positive dividends story".

The company has also been on an aggressive cost-cutting mission as part of its turnaround.

It slashed 3,000 jobs and is looking for ways to lower its property bill.

Pydigadu says they plan to create a few "hubs" around the country that can used by those that need to work on EOH premises. Since 2018, the group has cut its rental bill by R74m.

As part of its revival plan, EOH has overhauled its operational structure, consolidating more than 272 entities into three business units: iOCO, Nextec and IP.

Between August 2018 and July 2020, EOH whittled down the number of businesses in the group to 173, and plans to end up with just 34 companies within the group.

But in the scramble to rightsize the business, has EOH sold off potential gems? After all, it has offloaded R1.6bn worth of assets.

"Unfortunately, that has largely been the case," Takaendesa says, explaining that better-quality businesses have been sold to repair the balance sheet while some troubled businesses have been closed.

"However, this is not unique to EOH, as other JSE-listed companies with unsustainable capital structures have been forced by lenders to dispose of or commit to sell their best assets, as those are the most likely to get buyers in a tough economic environment," he says.

Van Coller, obviously, disagrees.

"Have we sold all the crown jewels? No. Have we sold some of them? Yes, we have, but I think we got very good prices for them."

As for its ability to sell Microsoft licences, which it lost early last year as suspicions of corrupt deals grew, Van Coller says EOH has been unable to rekindle that relationship.

"We’ve been in contact with them from time to time. They’re still going through their own investigation with some of the authorities and I think until that’s done, it’s very difficult to have those discussions."

So what is the investment case for shareholders now?

In its heyday under former CEO Asher Bohbot and financial director John King, EOH’s aggressive acquisition model — using its increasingly valuable shares to buy cheaper companies — meant it was able to "grow" earnings by between 30% and 40%, without fail, for well over a decade.

That made the stock one of the best-performing shares on the JSE: it rallied an astonishing 1,636% between January 2010 and the 2015 August peak of R178.

Of course, that fell apart in spectacular fashion in 2017 as the acquisitive house of cards collapsed, preceded by allegations over dodgy public sector contracts.

Clearly, the era of gravity-defying growth is over and as a largely SA-focused IT services group, EOH’s growth will be restricted in a sluggish local economy.

However, its shares have perked up of late, rallying almost 66% over the past month.

The company intends to reduce its reliance on being a third-party seller by building its own products for enterprise clients.

And it plans to use its business in Egypt as a springboard for the Middle East.

Here’s to EOH 2.0.