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Liberum sees value in Ferrexpo shares after drop over charity discrepancies probe

Incentive for CEO to knowingly participate in misappropriation of funds "isn't obvious given the relative risk reward", as his stake in the company is worth around US$800mln

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Ferrexpo has launched a review into US$110m paid to charity Blooming Land

A 30%-plus fall in Ferrexpo PLC (LON:FXPO) shares over the past fortnight has persuaded broker Liberum Capital to upgrade its recommendation for the stock as it thinks worries about controversial charity payments are likely to blow over.

Liberum moved its rating for the FTSE 250-listed firm to ‘buy’ from ‘hold’ and lifted its target price to 250p from 185p as it outlined several “objective and subjective reasons” to back up its theory about the Ukraine-focused iron ore miner, which has launched a review into payments made to Ukraine charity Blooming Land. Ferrexpo has paid US$110mln to the charity over the past 10 years, as part of its corporate social and responsibility programme in the Ukraine.

READ: Ferrexpo shares rally as it rejects assertion by Deloitte over Blooming Land charity review

The company on Monday rejected an assertion by former auditor Deloitte that it had delayed this review, having initially become suspicious about Blooming Land in the first half of last year, ceasing payments to the charity last May as it tried a “cooperative route” to its investigation before moving to an independent review in February this year.

Liberum analyst Richard Knight said he thought it was “highly unlikely management knew of or suspected any (potential) misallocation of funds” before May 2018. “Assuming this becomes clearer following completion of the independent review, we expect the shares will rebound, despite our view of further softness in Chinese steel demand and a pull back in benchmark iron ore prices.”

Knight, who has covered the Swiss-headquartered group for 10 years, said that the only doubts raised over the independence of chief executive and majority shareholder Kostyantyn Zhevago from Blooming Land have been by Deloitte, “which has not alleged any link, rather, it has not been able to absolve the possibility that there is a link".

Deloitte, Knight observed, has pointed to a significant number of "potential associations and linkages adjacent to the CEO" and Blooming Land, which are being investigated as part of the independent review. But the analyst took confidence from the Ferrexpo board's unanimous view that Zhevago has "not had significant influence over Blooming Land” based on “a lack of clear evidence to the contrary and unambiguous representations given to the board by the CEO over many years".

READ: Ferrexpo increases dividends and boasts “successful” 2018

Having delayed its 2018 annual results twice, the miner published them last Tuesday, which Knight said was, “in part”, one of the causes for Deloitte’s resignation, “due to a technicality”, because the company had to publish its results for 2018 before the conclusion of the independent review into the case.

Knight also added: “The incentive for the CEO to knowingly participate in misappropriation of funds isn't obvious given the relative risk reward. Zhevago owns 51% of the company (worth circa US$800mln) and his dividend last year was worth about half the amount paid to Blooming Land in the previous five years.”

Also, subjectively, the analyst said that covered the company for 10 years has has “never had any doubts as to the integrity of management who we believe have always acted in the best interests of minority UK shareholders in what is a difficult operating environment in the Ukraine”.

“Looking ahead there is clearly scope for internal controls to be strengthened, but operational risks of this nature will always be high for a company like Ferrexpo and should be reflected in the valuation.”

In afternoon trading, shares in Ferrexpo were 4.8% higher at 217.30p.

 -- Adds share price --

Quick facts: Ferrexpo PLC

Price: 135.55 GBX

LSE:FXPO
Market: LSE
Market Cap: £797.88 m
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