SINGAPORE (Mar 12): YuuZoo Corp stands by its accounting policies for its franchise operations despite the criticism it has received, the company’s executive chairman Thomas Zilliacus told minority shareholders at a dialogue organised by the Securities Investors Association (Singapore) on March 7. Responding to a question from SIAS president David Gerald, Zilliacus adds that he does not think the regulators understand his business. His comments come after the company was hit with a compliance notice and queries from the Singapore Exchange on March 5.

Zilliacus says YuuZoo owns stakes in 65 companies in 50 countries across Africa, Asia and Europe. These companies acquire from YuuZoo a franchise licence for software to run a social e-commerce network. “All of the franchisees are independent operations [that] run the franchise as their own business and share revenue with us. They buy from us the licence, the rights to run the franchise in a specific market. They pay — and this is something that we have agreed with our auditor, RT — a fixed fee based on the cost of the software that has been developed,” Zilliacus says.

YuuZoo is paid by these franchisees in shares rather than cash. “It’s not [just] that we accept the payment [in shares], we want the payment in shares. Why do we want that? Because if [a franchisee] is successful, the share value will go up and we can sell the shares on the market and deliver to you, our shareholders, the dividends, much more than we could ever have given if we had asked for a one-time fixed cash fee upfront,” he adds.

Regulator queries

YuuZoo has not paid its shareholders any dividends yet, though. In fact, it is far from being in a position to do so. For FY2017 ended Dec 31, YuuZoo reported an 84% fall in earnings y-o-y to $2.3 million. This arose from “impairments of assets available for sale and bad debts written off”. These AFS assets relate to shares held in franchisee companies. Meanwhile, its top line for the year was down 40% to $62.2 million.

YuuZoo classifies its revenue in three segments. Revenue from its e-commerce segment plunged 93% y-o-y to $3.9 million, owing to “suspension of certain payment-related services during the year”. The largest segment, network development and franchise sales, reported revenue of $46.7 million. The remaining segment, classified as unallocated, reported revenue of $19.7 million. The company saw a net operating cash outflow of $4.73 million for FY2017.

On March 5, the SGX issued a notice of compliance to YuuZoo requiring it to get its statutory auditors to “provide an opinion on the veracity and reasonableness” of two items in its full-year results. The first item is the “other income” of $8 million in 4QFY2017 — a spike from $159,000 a year ago — arising from the purchase of assets related to the formation of YuuLog France. The second item is the increase of AFS assets by 63% y-o-y to $54.2 million in FY2017, despite a $17.5 million impairment of AFS assets in the same period. YuuZoo is required to respond by March 19.

Separately, SGX released a list of queries for YuuZoo to answer by March 9. One query requests an explanation behind the suspension of payment-related services in FY2017. Another query is on why the company’s YuuLog Europe unit reported revenue of just $19.7 million, falling short of an earlier guidance of more than $30 million. SGX also indicated that there are “a number of errors” in YuuZoo’s financial results announcement — without elaborating on specifics — and called on the company to correct them.

Sceptics versus believers

Mak Yuen Teen, associate professor of accounting at the National University of Singapore Business School, welcomes the bourse’s questions. Mak, a frequent commentator on local corporate governance matters, has written several commentaries on YuuZoo and says the recent set of results adds to the questions he has already raised.

YuuZoo’s method of valuing its AFS assets, for instance, should be questioned. “If there is such a huge impairment of the previous shares granted, there is a good chance that AFS on the balance sheet, including the additions, will be further impaired in future. In that case, they should not be in the balance sheet in the first place. I would expect the auditors to challenge these, so I am pleased that SGX is asking them to get the auditors to review these now,” Mak says in response to queries from The Edge Singapore.

He also raises some concerns about the turnover of YuuZoo’s board. On Feb 20, YuuZoo announced that its independent director Kim Karhu, from Finland, was resigning owing to “a lack of time” and because YuuZoo does not operate in his country of residence. “The company made a song and dance about the appointment of two additional directors from Finland last year, and [Karhu] has now resigned after less than five months,” Mak says.

Meanwhile, YuuZoo’s latest chief financial officer (CFO) Kevin Wang does not appear to have an accounting background, even though “many of the issues surrounding the company are accounting issues”, Mak says. An Oct 2 filing described Wang as a sector portfolio manager at GVC Investment Co, Hong Kong. He had previously worked as a senior associate analyst at Citigroup in the US and an investor relations and project finance manager at Suntech Power Holdings in China.

YuuZoo’s chief operating officer Mohandas defends Karhu’s departure, saying: “Rather than stay on as a symbolic board member, he chose to step down so that he could be replaced by a person with more time to contribute.” On Wang, Mohandas adds: “The role of the CFO of a globally operating social commerce company is not to be an accountant… The persons in charge of accounting report to the CFO. These persons include two former auditors, one from EY and the other from Deloitte.”

On the valuation of the AFS assets, Mohandas explains that YuuZoo had earlier valued the shares it receives as payment from its franchisees using a discounted cash flow model tied to expected future earnings. “In its audit of FY2016, YuuZoo’s auditor stated that it did not like the DCF-based valuation as future earnings were impossible to exactly determine,” Mohandas says. “YuuZoo’s auditor suggested that YuuZoo instead should move to a costbased fee for the franchise licence.”

Are shareholders buying the explanations of YuuZoo’s management? Several of those at the dialogue who spoke to The Edge Singapore say they really think of themselves as speculators rather than long-term shareholders. They had bought the stock after its decline and plan to sell it quickly if it runs up.

But there are others who seem hopeful that Zilliacus will deliver on his promises of improved returns. “We thought that our investments [in YuuZoo] were all gone. But at least [now], you give us hope,” says one long-time investor, who spoke at the session’s question-and-answer segment. He also expressed hope that YuuZoo would streamline its business units: “Are you overstretched? Maybe you need to concentrate on a niche... Please try to do something concrete.”

The shareholder also says he has chosen to ignore Mak’s previous criticism of YuuZoo. “I didn’t believe the professor, I believed Thomas. And then you know what the result is now, right? I lost money. But I’m not blaming you, I’m blaming myself... But I’m still holding on to my shares.” — With additional reporting by Joan Ng

The Edge Singapore put the two questions to YuuZoo CEO Mohandas and here is what he has to say about the group's assets available for sale (AFS) and the turnover rate of its directors.

The Edge Singapore: Given that there is a huge impairment of previous shares issued by franchisees, but there is also an increase in available for sale assets on your balance sheet, should the company relook how it values those AFS assets to begin with?

Mohandas: YuuZoo is an investment holding company. In line with its business focus, it has a policy of selling franchise licenses in return for shares. The shares will appreciate in value if the operations of the franchisee are successful, and YuuZoo can sell the shares at a time it considers optimal for its shareholders.

The value of the shares YuuZoo receives as payment were earlier determined using a DCF-based valuation, tied to expected future earnings. In its audit of FY 2016, YuuZoo’s auditor stated that they did not like the DCF-based valuation, as future earnings were impossible to exactly determine, which means that the value is impossible to pinpoint.

YuuZoo’s auditor suggested that YuuZoo instead should move to a cost-based fee for the franchise license, where the cost of developing the software that forms the key part of what YuuZoo sells to each franchisee forms the basis of what YuuZoo charges. This cost-based fee should be completely delinked from any future earnings.

YuuZoo decided to adopt the policy. YuuZoo decided to charge a fee of US$1.5 million, based on the actual costs YuuZoo had incurred in developing the platform, which costs a year ago stood at around US$7 million. As the platform continuously is improved and upgraded, the cost increases for each year that passes.

The cost-based value of the software that YuuZoo has sold does not disappear if the franchisee does not use it in an optimal way. It is important to underline that each franchisee has launched the vertical tribal social ecommerce network the franchisee has bought from YuuZoo, and each franchisee, without a single exception, is generating users and revenue.

YuuZoo has put a first evaluation point to determine whether the franchise will be successful or not at three years of operations. Currently each franchise operation is cashflow positive and profitable for YuuZoo, as all costs for running the business is absorbed by the franchisee.

In line with its conservative asset and revenue recognition policy, which YuuZoo each year has tightened to become even more conservative, YuuZoo has for this year in spite of the above decided to write down the value of each franchise sold in 2015 and 2016 by 50% although each franchisee continues to grow by adding users, building its brand and generating revenue.

Several examples show that the price of the cost-based franchise license is conservative and low.

YuuZoo did already in 2010 sell exactly the same franchise license for up to US$2.4 million in cash. US$2.4 million in 2010 equals roughly US$2.78 million today (The Bureau of Labor Statistics consumer price index shows the dollar experienced an average inflation rate of 1.61% per year).

In 1Q18, YuuZoo has already sold branded networks, which each licensee has the right to sell in unlimited numbers in its own market, for up to US$1.5 million in cash, and is in discussions about several additional networks for even larger cash considerations. This means the value of the entire franchise can be made back in one single network deal.

The Edge Singapore: On turnover of key personnel and directors, the company appointed two directors from Finland last year and one of them has resigned after less than five months. Also, CFO Kevin Wang does not appear to have an accounting background. Could YuuZoo please comment on this?

Mohandas: The director who resigned is the former chairman of PWC Finland and the current chairman of Finland’s professional board members association. When he joined he stated that he wanted to play a very active role in the board work. Due to his many commitments and the fact that key global support functions are carried out far away from where he is based, he came to the conclusion that he could not contribute to the extent that he wanted to. Rather than stay on as a symbolic board member, he chose to step down so that he could be replaced by a person with more time to contribute.

The role of the CFO of a globally operating social commerce company is not to be an accountant. The CFO plays a very important role in a number of key functions, for which Kevin Wang has a perfect background, having held senior positions in large international companies and financial institutions in several countries including USA and China. The persons in charge of accounting report to the CFO. These persons include two former auditors, one from EY and the other from Deloitte.