Embezzlement, intrigue, insider trading: the battle for control over PECO
This is the story of a company you may never have heard of, but one that includes just about every ingredient of corporate drama that you can imagine. There are allegations of embezzlement, corruption, potential insider trading and what may well be a high-stakes battle for the control of a publicly listed company with a substantial shareholding of the government.
The entity at stake? Pakistan Engineering Company, Ltd, publicly listed on the Pakistan Stock Exchange under the ticket symbol PECO, which, incidentally, is also the abbreviated way to refer to the company.
If one is to only believe the allegations in some rather insufficiently researched newspaper reports, the matter appears simple enough: a group of influential investment bankers and brokers gained insider information about a struggling state-owned company about to be revived and connived to buy shares from a state-controlled mutual fund that owned a substantial number of shares. The goal appears to have been to gain control over the valuable urban land owned by the company and sell it off for a massive profit in the tens of billions of rupees.
Of course, if the matter were quite so simple, this would not be nearly as interesting a story. Reality has a habit of being far more complex than fiction, this story has more twists and turns than a well-written mystery novel.
To avoid getting lost in the complications, we shall start our story at the very beginning.
How PECO got its start
The company now known as PECO began life in February 1950 as the Batala Engineering Company (BECO) by a man named CM Latif, who set up a factory to manufacture light engineering products on a sprawling 34-acre plot in the Badami Bagh area of Lahore. Almost since the very beginning, BECO was a publicly listed company, listed on the Karachi Stock Exchange.
Over the next decade, as the young nation continued to expand its infrastructure, Batala Engineering did well, with business growing so fast that it soon needed to expand its facilities.
So, in 1960, the company bought 247 acres of land in the Kot Lakhpat industrial area in Lahore with the aim of eventually expanding its manufacturing operations there.
Alas, that vision was not to pass, because before the company could fully realise its ambition of expansion, along came the socialist government of Prime Minister Zulfikar Ali Bhutto, which nationalised the company in 1972 and renamed it the Pakistan Engineering Company (PECO).
At the time of nationalization, CM Latif owned 24.86% of the shares of PECO, and the rest of the shares were owned by the general public. Under the 1972 order, the shares held by CM Latif were taken over (or stolen, depending on one’s perspective) by the State Engineering Corporation (SEC), a wholly owned subsidiary of the Ministry of Industries. The government-operated mutual fund National Investment Trust (NIT) also purchased 21.24% of shares of PECO through the stock exchange effectively changing the shareholding pattern to this: 33.25% of the shares were held directly or indirectly by the federal government; 21.24% shares were held by the federally controlled NIT, and 45.51% shares were held by the general public.
It is important to understand the role of NIT in the shareholding. While the federal government owns the management company that runs NIT, and is among the largest shareholders in the mutual fund, the fund itself technically operates on behalf of all shareholders, which includes private individuals. Hence, while NIT often acts as a quasi-government entity when it has a seat on the board of directors of companies it has substantial shares in, it is not directly obligated to do so under the fiduciary duties set forth for it by securities law.
The ambiguity of NIT’s role is where the problem starts in the battle for control over PECO, especially since the government’s ownership of NIT’s management company is what gave it management control over PECO in the first place.
The disaster of government ownership and attempted privatisation
Needless to say, government ownership of PECO did not suit the company well, and in the 30 years that followed its nationalisation, PECO kept on wracking up losses, accumulating a combined Rs2.12 billion in losses by 2002, consistently relying on government-guaranteed loans and bailouts to remain afloat. The company went from being a high-flying publicly listed company expanding rapidly to becoming a dysfunctional ward of the state, technically still listed on the exchange, but with no real trading in its shares and no interest from investors because it was an almost entirely hopeless cause.
Then along came the military coup of 1999, and with it the very pro-free markets former Citibanker Shaukat Aziz as finance minister. Aziz had no interest in continuing to spend government money bailing out a company that should never have been in government ownership to begin with (the government did not create it, after all). And so, in 2002, the company was placed on the “active list” of the Privatisation Commission, meaning the commission was authorized by the cabinet to sell the government’s shares in the company.
However, prior to that cabinet decision, the Privatisation Commission had sent a letter to NIT, ordering it not to sell its shares in PECO without prior approval from the commission. What is not entirely clear – and what has yet to be litigated in court – is whether the Privatisation Commission’s order was superseded by the order from the federal cabinet. It is also not entirely clear whether the Privatisation Commission was within its legal authority to give orders to NIT.
Nonetheless, what happened next would raise some eyebrows.
As part of the attempt to privatise the company, the government had decided to restructure the company’s balance sheet: it authorised PECO to sell some of its prime urban land in Lahore to pay back debts that had been guaranteed by the government, specifically about Rs1.8 billion in PECO liabilities that had been directly assumed by the government that it wanted paid back.
On August 9, 2003, the PECO board of directors was informed that they had obtained the final approvals needed – a no-objection certificate from the Punjab government – to sell the land and clear the way for privatisation. The meeting was attended by, among others, Asif Jameel, who was a director serving as NIT’s representative on PECO’s board.
Within the next four days, NIT sold nearly all of its shares in PECO, all 1.2 million of them. The trading patterns in PECO’s shares went completely berserk. In the year preceding the August 2003 board meeting, the average number of shares traded was 48,727 per day. In the month after the meeting, the average number of shares traded went up to 901,058 per day. More PECO shares were traded in the three weeks after that board meeting than in the previous full year.
In an investigative report compiled by Javed Hasnain Rashid & Company, a chartered accounting firm retained by PECO management in 2018, it is alleged that the ultimate buyers of the shares from NIT were veteran investment banker Arif Habib, through Rotocast Engineering (Pvt) Ltd, and Masood Ahmad Khan Soodi, through Maha Securities. The central allegation in the report is that NIT acted on behalf of Arif Habib and his associates and improperly sold its shares, an action that, if true, would constitute not just insider trading, but several other counts of securities fraud.
For his part, Arif Habib claims that he did not act inappropriately and in fact, was not the buyer when NIT was selling in that frenzied month in August and September of 2003. “I had purchased shares of the company a year after NIT had sold in the market,” said Arif Habib, in a statement e-mailed to Profit.
Once NIT sold, however, the government was no longer the majority shareholder in PECO, retaining only a one-third share in the company. It managed to hold on to most of its board seats, however, until March 2006, when the private shareholders – led by Arif Habib – managed to flip the board of directors. The government had previously held six of the nine board seats prior to 2006. After that election, it only had three seats, and private shareholders then controlled six.
The private control era, and the investigations
What followed was a period of extraordinary turnaround for PECO. In the six years ending June 30, 2004, PECO accumulated net losses of Rs858 million, even as its revenue grew from Rs244 million in 1999 to Rs457 million in 2004. In the six years after that, however, revenue nearly quadrupled, going from Rs457 million in 2004 to Rs1,677 million in 2010, an average growth rate of 24.2% a year. Profits soared as well, peaking in 2007 at Rs312 million.
And while the allegedly unauthorised sale of NIT shares had been reported to the government almost immediately, no real action was taken during the Musharraf Administration, perhaps in part because the result the government had been aiming to achieve – private management control of PECO and an end to government bailouts of the company – had effectively been achieved, even if a full privatisation auction had not taken place.
That changed in 2008, when President Musharraf left office, and the newly elected government of President Asif Ali Zardari was sworn in.
With a newly reinvigorated Parliament after a decade of military rule, there was renewed interest in the legislature to examine the record of the military government. The Public Accounts Committee (PAC) of the National Assembly, led by Sardar Ayaz Sadiq, began looking into the matter of the allegedly unauthorised sale of NIT’s shares in PECO.
The PAC formed an investigative committee comprised of senior civil servants who were tasked with looking into what happened and who was responsible. The committee ended up blaming officials at NIT for acting improperly and claimed that insider trading had, in fact, taken place. They recommended that the government make efforts to regain controlling shares in PECO at as little a loss to state-owned entities as possible.
The report’s specific language, however, is highly debatable. It claims, for instance, that there was insider trading and that private shareholders were able to gain control of PECO as a result of that insider trading. Yet, it holds officials at NIT responsible, and urges the government to buy back shares rather than demanding they simply be confiscated.
The unwillingness of the PAC-appointed investigation committee to suggest any action against Arif Habib and his associates has been constituted by many including Habib to mean that the committee has exonerated his actions. “The committee, the SECP [Securities and Exchanges Commission of Pakistan], as well the National Accountability Bureau have investigated and found no wrongdoing [on my part],” said Arif Habib, in his statement to Profit.
The government then entered into negotiations with Arif Habib to try to get him to sell his shares with at least some government officials believing they could compel him to do so. However, Arif Habib decided to keep his shares and instead offered the government that he would abide by three conditions:
- The government would be allowed to regain control over the PECO board of directors
- Arif Habib would pool his shares with the government’s shares for sale when PECO’s formal privatisation process started
- Arif Habib would offer the government the right of first refusal before selling any of his shares
But while he was willing to make this offer, the government appears to feel this is not enough and is unwilling to settle for anything less than Arif Habib selling his PECO shares back to the government. As a result, while the chairman of the board and the CEO are still government appointees, the private shareholders, including Arif Habib, still control six of the nine board seats on the PECO board of directors.
The government was able to wrest at least enough control to be able to gain back partial management control, with the right to appoint the CEO. However, that appears to be where things went wrong.
The new CEO, and the battle for control
In March 2016, the government appointed a civil servant – Mairaj Anees Ariff – as the CEO of PECO. And almost from the very beginning, the private sector shareholders were deeply unhappy with the situation, which has resulted in the company descending into chaos, accusations of embezzlement and corruption being traded between the CEO and the private sector shareholders, and the dredging up of the old issue of how the private shareholders managed to even get control over the company in the first place.
In short, the situation is this: Mairaj Ariff wants to assert control as the CEO of PECO, and believes that the private shareholders, led by Arif Habib, are instigating a revolt under him, particularly through their influence with some of the senior finance and operations staff, including the CFO. The private shareholders, meanwhile, believe that the CEO is unqualified for the job and is not only running the company into the ground but also embezzling company funds while doing so.
Matters came to a head on October 3, 2018, when Mairaj Ariff wrote a letter to NAB alleging that three senior company officials – the CFO, the General Manager Audit, and General Manager Works – were acting as “front men” of the private sector shareholders. It is unclear what he means by “front men”. If by that he means that they are acting on behalf of the shareholders, it is unclear why such a thing would be illegal, since company officials have a fiduciary responsibility to shareholders, and the private sector shareholders are in the majority.
Nonetheless, Mairaj Ariff was in no mood to tolerate any dissent and went so far as to fire the three officials and have them physically barred from entering PECO’s offices.
Arif Habib, however, has a completely different version of events. They agree that the CEO and CFO did not get along. They completely disagree on why. “Regrettably, the highhanded and inept manner, in which Mr. Mairaj A. Ariff had been running the day to day affairs of the company had been reported to different fora by the senior management of the company. So much so, that the Chief Financial Officer of PECO was constrained to file a complaint against the Mr. Mairaj A. Ariff after he was pressured by Mr. Mairaj A. Ariff to falsify the accounts of the company to hide the losses being incurred during his tenure. Ever since the refusal of the CFO to adhere to such illegal demands of Mr. Mairaj A. Ariff, he has been on a vendetta against the senior management of the company; he had been preventing them from attending their statutory duties and has also been trying to prevent meetings of the Board of Directors under one pretext or the other,” said Arif Habib, in his statement to Profit.
For their part, Arif Habib and the other shareholders allege that the CEO is trying embezzle funds, which they are trying to prevent him from doing. They went so far as to try to block the company’s accounts at United Bank Ltd, a move that was resisted by the CEO, and for which Mairaj Ariff received support from officials at NAB.
PECO’s accounts in United Bank were suspended after some company officials submitted documents to the bank requesting a suspension of these accounts.
The PECO accounts were restored on January 29, 2019, after NAB intervened, according to sources at Ministry of Industries. The president of United Bank was summoned at the offices of the Combined Investigation Team (CIT). The responses submitted by the bank for the clarification of suspension of accounts were deemed “unsatisfactory” by the NAB and therefore PECO accounts were made operational again. During the time that these accounts were suspended, salaries and payments for raw materials by PECO were delayed.
The justification from the PECO officials was that Mairaj Ariff had unilaterally appointed a new CFO after firing the old CFO, Mian Anwar Aziz. A civil court in Lahore has issued an injunction against Aziz’s termination. They alleged that Ariff unilaterally sought to change the authorized signatories of the bank account maintained with UBL without obtaining approval from the board of directors. By exerting pressure on UBL officials, Ariff got the signatories changed and also conducted certain transactions from the bank account, including a withdrawal of Rs5.6 million which amount is unaccounted for in PECO’s accounts.
Who is to blame for the losses?
The ultimate dispute between the private shareholders and the government-appointed CEO is who is responsible for the fact that PECO’s revenue have plummeted over the past three years and the company has swung from making a profit to a loss. Arif Habib and the other shareholders squarely place the blame on the CEO’s ineptitude, whereas the CEO blames what he calls meddling by officials whom he accuses of being loyal to the shareholders and not him.
Mairaj Ariff hints at what he believes to be a dark agenda that Arif Habib and the other shareholders have. “As a state enterprise, if PECO shuts down, the private investors can pressurise the government to sell the 250 acres of land worth approximately Rs100 billion rupees, or even more,” he said, in an interview with Profit.
And to further embellish his position that the private shareholders were acting in a nefarious manner, he commissioned that investigative report by Javed Hasnain Rashid & Company, a chartered accounting firm, laying out what he believes to be the illegitimate manner in which Arif Habib gained his shares in PECO.
Ultimately, however, as much as the government may dislike the fact that Arif Habib is a shareholder of PECO, they appear to have acted in a manner that suggests that they either believe his version of the story or do not have any evidence to prove otherwise. Mairaj Ariff was removed from his position in February 2019 through a unanimous vote of the board of directors, bringing – for the moment – an end to the drama at PECO.