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Email exposes Downer arm
ADELE FERGUSON
June 29, 2010

A LEAKED internal email from a senior executive at Downer EDI has called into question the group's financial reporting, with revelations that one of its key divisions stopped supplier payments of more than $35 million to meet end-of-year cash-flow targets and avoid a potential net cash outflow.

Documents seen by BusinessDay reveal this is not the first time the company has ordered the withholding of payments to meet targets for its end-of-year accounts.

In a memo written last year to senior executives, including chief executive Geoff Knox and Peter Reichler, the then general manager of operations, Steven Roberts. wrote: "As you are aware, we are yet to meet our June 30 cash-flow target with certainty. Consequently, all creditor payments are to be immediately stopped. The only exception is statutory payments for taxes."

A year on, it can be revealed that the chief financial officer of Downer EDI's works division, Chris Storey, made a similar request to meet cash targets for its full-year accounts.

The request to stop payments to suppliers came two weeks after Downer EDI shocked investors with a $260 million write-down and news that credit ratings agency Fitch had knocked its credit rating below investment grade.

Downer's share price has fallen from a high of $9.33 in January, plunging 25 per cent to $4.58 on June 1 when it announced the $260 million in write-downs, and closed yesterday at $3.99, making it vulnerable to takeover.

The stock is expected to take a further pounding today, with Goldman Sachs set to publish an article on Downer highlighting the risks that remain with the stock, and the prospect of another sizeable provision on the Waratah train contract.

In a note to clients, it said: "We are increasing the relative price to earnings ratio discount we apply to the stock from 25 per cent to 40 per cent and this has reduced our target price by 20 per cent from $6.26 to $5."

In the June 17 email, Mr Storey made it clear that if the division was to meet a revised cash target of $45 million, it would need to "closely manage" its working capital position by deferring a "significant" number of supplier payments expected to be made this month. Mr Storey estimated this number was more than $35 million. "This action is necessary as without it the works business would likely record a net cash outflow for the year."

Mr Storey said in the email the cash-flow situation had arisen principally as a "result of the failure to achieve targets and execute work appropriately, leading to a high value of disputed amounts that have not been dealt with in a timely manner". He said there were few exceptions to this in any region.

He said the process would place some strain on the operational and support teams, but it was necessary to meet obligations to the Downer Group. "It is one which we should each, as senior managers of the works business, support in full," he said.

"Under no circumstances should the deferral be attributed to a directive from the executive as this can also lead to misunderstanding."

Downer EDI chief financial officer Grant Fenn told BusinessDay the wording of the emails was unfortunate. ''The emails don't read particularly well,'' he said.

He described Mr Storey's approach to deal with these targets as "overzealous". He said managing cash flow was extremely important and that it should not be left to the last minute. He said businesses needed to be on top of debtors and creditors.

Mr Fenn rejected claims that the company had taken the step to withhold payments because it was facing liquidity issues. He also rejected claims that the decision to withhold payments so that it could meet targets rather than record a net cash outflow for the year was to window-dress the cash flow.

"Downer doesn't have any liquidity issues,'' he said. ''It has substantial cash balances."

Mr Fenn also denied reports that the company needed to raise fresh equity. "We have been very clear we don't need to raise equity for Reliance Rail," he said. "We don't need equity at the moment or in the foreseeable future." But he said if the company won significant new contracts that required significant amounts of capital and if equity was required, it would raise equity in a form that was fair to all shareholders.

Mr Fenn said senior executives in Downer had to meet certain targets, including safety, profitability, return on assets and cash.

On Downer's website it says its works division is a leading provider of engineering and asset maintenance delivery in the infrastructure sector. It includes network maintenance and management for road, rail and water assets, with its main clients federal, state and local governments.