After Enron, Investors Scrutinize Off-Balance-Sheet Partnerships
By AARON ELSTEIN
Off-balance-sheet partnerships -- those sometimes debt-laden entities through which companies can do business while keeping financial obligations off their books -- were once pretty much ignored by investors.
But after the collapse of energy-trading giant Enron, times have changed.
Few companies illustrate this change of heart as well as Hanover Compressor, which makes pumps that move natural gas out of wells and through pipelines. Shares in the Houston company have fallen 36% this month amid investor concern over use of a partnership. Such entities helped get Enron in trouble.
Hanover Compressor's partnership dissolved last February, though it doesn't appear that most shareholders learned of its existence until last April, in a footnote in the company's annual report. Some investors' belated concern is over whether Hanover's accounting treatment of the partnership inflated the company's revenue and earnings figures during periods when Hanover executives sold millions of shares and the company raised $170 million in convertible debt.
Hanover's chief financial officer, William Goldberg, declined to comment on matters related to the partnership. The company responded to written questions by stating: "The company is currently in litigation with its former partner in the joint-venture in question, which litigation was initiated by the company. Therefore it is not appropriate for the company to comment at this time." The litigation was filed in a Galveston, Texas, federal court.
Hanover alleges that its former partners conspired to defraud the company. The partners deny the charges and want the matter settled by an arbitrator.
Last year, when Enron was riding high and off-balance-sheet partnerships weren't a topic of talk shows, investors couldn't have cared less about any off-balance-sheet activity at Hanover. Hanover's stock slipped a bit last spring after the company sold new shares, falling to as low as $29.25 last March. But it quickly recovered and by June fetched just over $40 a share. It slumped as the summer wore on, dropping below $30 in August amid concerns that falling energy prices would hurt earnings at energy-service companies.
Besides the newfound concern about off-balance-sheet activity, investors this month also seem to be using guilt-by-association logic in fleeing the stock: Among the many disclosures made by congressional investigators in the Enron situation is an August 2001 whistleblower's letter to Kenneth Lay, then chairman of Enron, which, among other things, raises questions about the transfer of Hanover stock owned by Enron to one of its off-balance-sheet vehicles. Enron owned a 6.2% stake in Hanover as late as November.
At 4 p.m. Thursday, Hanover's shares were up 35 cents, to $16.05, in New York Stock Exchange composite trading.
The partnership in question, Hampton Roads Shipping LLC, was formed Sept. 29, 2000. Hanover invested $1.25 million for a 25% stake and agreed to build and operate three barges for it to extract gas off the Nigerian coast, according to Hampton Roads' court filings. These filings also allege that Hanover agreed to lend as much as $43.5 million to the partnership if financing couldn't be found elsewhere. Hampton Roads also alleges that Hanover officials "promised" that Hampton would receive 75% of the project's projected $1.1 million in monthly revenue, and Hanover would guarantee that.
It isn't clear how far Hanover progressed in building the Nigerian gas-processing facility or how much revenue -- if any -- it booked from it before the partnership ended on Feb. 5, 2001, five months after its creation. The project was abandoned after the Hampton Roads' partners learned that sufficient natural gas to support the facility couldn't be had until 2004, according to Hampton Roads' court filings. Hanover says in its court documents that it agreed to refund the partners' money, which came to $4 million, including expenses.
Hanover's practice is to record revenue from construction projects based on the percentage of the project that has been completed, Mr. Goldberg said in a brief interview. For example, if a construction project is 30% complete, the company would book 30% of the revenue.
If such practices applied in the Hampton Roads' instance, then Hanover may have booked as much as $25 million of the $51 million of revenue it expected from building the facility by last March. The projected revenue comes from Hampton Roads' court filings, which also state that the project was scheduled to be operating by Aug. 31, 2001.
Among critics of Hanover Compressor's treatment of its partnership is Mark Roberts, research director at Off Wall Street Consulting Group, Cambridge, Mass., who maintains that Hanover should have told shareholders about the partnership at a time the company was selling the convertible debt and top executives were selling shares. "It doesn't appear they made all the disclosures that would be necessary for reasonable investors to decide whether or not to make an investment," he says. Mr. Roberts says he doesn't own any Hanover stock and hasn't sold any short, a bearish bet that pays off when a stock drops.
The estimated $51 million of revenue from the project would have been significant for Hanover, which has grown fast in recent years. The company reported $604 million of revenue in 2000, nearly double 1999's $323 million; it reported $782 million through the first three quarters of 2001.
A spokesman at Hanover's accountant, PricewaterhouseCoopers, says the firm doesn't comment on client audits.
In any case, Hanover's stock and debt offerings raised millions for the company and its executives. Last March 16, Hanover executives and institutional investors sold 7.5 million shares and the company sold 2.5 million new shares at $35.15 a share. The company also sold $170 million of debt that could be converted to stock at a price of $43.94 a share.
To be sure, many investors are standing behind Hanover. Richard Giesen, a portfolio manager at Munder Capital Management, which owns 1.1 million shares, says that any company that resembles Enron in any way "will be tarred and feathered and shot -- and shot again." But he says he is "perfectly comfortable" with Hanover's accounting practices and says the off-balance-sheet partnership is "plain vanilla."
But Mr. Roberts of Off Wall Street recommends investors sell Hanover shares, partly on the basis of its ties to Enron. "Did Hanover management acquire any of its business friend's bad accounting habits? It appears that this may be the case." |
