Risks in sale and leaseback

With ams Osram vacating the facility, a white elephant will soon emerge in Kulim High Tech Park and it is left to be seen how this investment by the GLICs will turn out.

IT was a seemingly sweet deal for some top Malaysian government funds last year when a multinational with a history of setting up factories in Malaysia was seeking an investor for its new plant.

Osram Opto Semiconductors Sdn Bhd, wholly-owned by Austria-based ams Osram, was building what it claimed would be the world’s first fully automated 8-inch LED and micro LED manufacturing facility. This was next to their existing plant at Kulim Hi-tech Park. MicroLEDs are LEDs that are very small, and they can be used to make displays for phones, smartwatches, and TVs.

In October, three of Malaysia’s largest government-linked investment companies (GLICs) — Permodalan Nasional Bhd (PNB), Employees Provident Fund (EPF) and Retirement Fund Inc (KWAP) — said they had signed a sale and leaseback deal with Osram Opto Semiconductors for RM2bil.

The deal looked hunky-dory then. The investment was for a 10-year period with an exit clause. This would mean that ams Osram would buy back the business after a successful run. It was also in line with Malaysia’s goal of attracting more foreign direct investment and building a high-tech ecosystem.

GLICs have in the past entered into similar sale-and-leaseback arrangements with a number of companies. The idea is to put their money into a solid investment (real estate) that also gives them a decent yield from the rentals the occupier will pay.

This also lightens the burden of the operating companies as they are able to cash out from their real estate and pump that money into their business or as in the case of ams Osram, reduce their capital expenditure when building a new facility.

But then the ams Osram deal hit a hitch. Late last month, ams Osram said it will vacate the new factory and is now looking for a new party to take over the lease at the facility in Kulim, for which construction began in 2022.

This came about after the February cancellation by a major customer for micro LEDs. As a result, ams Osram said it was re-evaluating its plans for micro LEDs, a product area that was to have driven a large share of revenue starting in 2025 or 2026.

With ams Osram vacating the facility, a white elephant will soon emerge in Kulim High Tech Park and it is left to be seen how this investment by the GLICs will turn out.

The situation also highlights the risks involved in the technology manufacturing world.

Electronics manufacturing services or EMS companies in Malaysia have turned out to be a huge success story. We have a strong base for these companies and a decent ecosystem such as injection molding providers.

These companies are also beneficiaries of the US-China trade war as more brand owners prefer Malaysia as a destination for their products to be made.

But there is always the big risk that EMS players can lose a customer to a competitor or for other reasons such as the product owner changing plans.

“EMS companies are very vulnerable to cancellation of orders,” says an industry veteran. He says one of the big Malaysian EMS companies of today, that enjoys a market capitalisation of some RM3bil, had at one point many years ago, almost gone under due to sudden cancellation of orders.

Hence, do the GLICs know the risks when entering into such sale-and-leaseback agreements with companies from such industries?

Recall that when they made this investment, they said that it was a unique opportunity to invest in “a high quality and high specification industrial real asset in Malaysia which provides competitive returns”.Clearly every investment has its risks.

On the positive side, based on what has been reported so far, it does seem that ams Osram is obliged to continue with its lease payments and the ball is in its court to find a suitable replacement.

But what happens if that takes longer than expected and what about the refurbishment costs?

The GLICs perhaps should also disclose more information about what is transpiring in this situation.

An analyst notes that even though it does look like the GLICs are protected by the agreement with ams Osram, the investors may still have to take some pain down the road, considering that all has not gone according to plan.

“What if it takes a long time for a new party to take over the lease and what about all the retrofitting costs? Also, will the new party agree to all the terms of the lease agreement or try to get things cheaper, considering it looks like a rescue effort?,” he quips.

This article first appeared in Star Biz7 weekly edition.

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