"If I had a board of directors doing that I would fire them. It puts the share price at risk," said Just One Lap founder Simon Brown. Although EOH’s actions were not illegal, they threatened acquisitive growth ambitions, since past acquisitions had been largely funded through share issuances, he said.
Earlier in the day, EOH disclosed that the substantial drop in its share price — 35% on Thursday — was caused by margin calls against equity-financed transactions, including to two EOH directors.
An investor receives a margin call from a bank or stockbroker if the value of a share they have bought with borrowed money falls below a certain level. The investor must then either deposit more money into the loan account or sell the asset to cover the margin call.
Jehan Mackay, CEO of EOH’s public services division, had been forced to sell more than R130m worth of EOH shares just to meet the margin call, suggesting his shareholding in EOH was highly leveraged.
Finance chief John King was forced to sell more than R16m worth of shares.
It was risky to take out fixed debt on a floating asset such as shares, said Keith McLachlan, fund manager at AlphaWealth. "I don’t like management teams to have geared positions on the companies they manage, as they then watch the share price rather than focus on their jobs."
Transactions by Mackay and King were done to buy more EOH shares at the time, reflecting their confidence in the company and its long-term prospects, EOH said.
McLachlan said it was good to have management teams who were aligned to the interests of shareholders, but not where a collapse in the share price might lead to an insolvent board, which would no longer qualify to hold directorships.
Cy Jacobs, founder and MD of 36One Asset Management said it was uncommon and "tot-ally undesirable" for directors to take derivative positions on shares in their companies.
King and Mackay could have paid for the shares in cash and did not have to sell, he said.
EOH said it had finalised an agreement to sell Grid Control Technologies, Forensic Data Analysts and Investigative Software Solutions back to their original shareholders. At least one of these businesses, Forensic Data Analysts, and the director of all three companies, Keith Keating, are implicated in an investigation into procurement irregularities involving the South African Information Technology Agency and the South African Police Service.
EOH had decided to unwind the November 2015 purchase of these businesses because of failure to meet performance warranties. This had been expedited by "recent media allegations" against Keating, it said.
The acquisition of the businesses had undergone a "rigorous due diligence process" and annual audits of the companies did not raise any red flag.
EOH had appointed Edward Nathan Sonnenbergs to conduct a "fact-finding review" of the commercial activities of the businesses, the group said. The law firm would have oversight of all material public sector contracts in future. "This is in addition to the internal compliance measures adopted by the board’s audit committee in July this year, which includes a review of EOH’s governance framework," it said.
The market was encouraged by EOH’s announcement, with the share climbing 8.54% on Monday, after a 5.6% gain on Friday, to close at R51.58.