George Kerr and the late Allan Hubbard were back in the headlines again this week and the stories were not flattering.
Kerr was in the spotlight following the release of Justice Paul Heath’s decision on the Perpetual Cash Management Fund and Hubbard was in the news after Grant Thornton published two further statutory managers’ reports on his entities.
The stories reconfirmed that related party issues, and conflicts of interest, continue to be a major problem in New Zealand and confidence in our capital markets will not be restored until these poor practices are outlawed.
Kerr has a controlling 76.3 per cent stake in Pyne Gould Corporation which has two 100 per cent owned investment divisions, Perpetual Group and Torchlight Group.
Perpetual promotes and manages the open-ended Perpetual Cash Management Fund, which had $56 million of investor money at the end of March.
Torchlight manages the closed end Torchlight Fund No1 and has invested $15 million of its own money into the $150 million high-risk fund.
The Cash Management Fund is described as a conservative entity that mainly invests in cash bank deposits, low risk fixed-interest securities and first mortgages.
The Torchlight Fund, which was aimed at sophisticated high net worth individuals and institutions, has an investment mandate that enables it “to invest in counter-cyclical, sometimes distressed, opportunities that exist at a time of low liquidity in the banking and investment sectors”.
On Sunday February 19, Kerr (as chairman of Torchlight) requested a financial facility for the Torchlight Fund from the Perpetual Cash Management Fund.
The Perpetual board met the next day and agreed to lend the Torchlight Fund $21.6 million from its Cash Management Fund, even though it was contrary to the latter’s lending criteria.
By April 4, the advance had grown to $28.22 million and Justice Heath wrote that the additional amounts did not appear to be approved in the same way as the initial advance.
The loans were secured against five development properties held by the Torchlight Fund in Queenstown and Wanaka.
On May 1, KPMG resigned as auditors of Pyne Gould as it believed the transactions should be disclosed in the group’s financial statements as related party transactions.
The Financial Markets Authority (FMA) began to take an interest but Perpetual obtained a ruling from Justice Rebecca Ellis “that all materials relating to it [the Perpetual Cash Management Fund loan to Torchlight Fund] are confidential and are not to be published or publicised”.
As at June 23, Torchlight still owed the Cash Management Fund $13 million and the FMA had little confidence in the ability of the Torchlight Fund to repay the loan in a timely fashion.
The FMA appealed Justice Ellis’ confidentiality order on the basis that market participants should be able to make informed decisions about their investments “with the knowledge of the behaviour of those responsible for making decisions that allowed the Torchlight loans to be made”.
Justice Heath overturned the confidentiality order but Perpetual tried to reverse this in the Court of Appeal before Justice Heath’s decision was released. The Court of Appeal endorsed Justice Heath and the latter’s judgment was released on Thursday.
It is totally unacceptable that an NZX listed company, through its subsidiaries, should make a highly controversial related party loan and then refuse to disclose it.
But Pyne Gould went even further, and successfully applied to the High Court for confidentiality orders. When this was overturned by another High Court judge, the company went to the Court of Appeal.
This clearly demonstrates that Perpetual, Torchlight and Pyne Gould have not learned from the recent finance industry debacles.
These three companies continue to live in the dark ages and do themselves and the country’s capital markets a huge disservice by adopting a head-in-the-sand approach to related party transactions.
Earlier this week Grant Thornton released its 11th statutory managers’ report on two of Allan Hubbard’s entities, Aorangi Securities and Hubbard Management Funds.
Aorangi accepted deposits of $96 million, on a fixed return basis, from 400 investors.
This money was largely invested in businesses and charitable trusts where Hubbard and his wife had a direct or indirect business interest.
One of these charitable trusts was lent money by Aorangi at a 10 per cent interest rate yet the trust from then on lent this money interest-free.
The statutory managers noted that Aorangi had the following characteristics:
The standard of paperwork and record keeping was extremely poor.
Aorangi’s loans were inadequately secured.
Aorangi accepted money on call yet most of these funds were invested long-term.
The company invested $59 million in farming businesses associated with Hubbard, many of which were struggling.
One of Aorangi’s major issues is that the Hubbard family “pledged” to meet any shortfall to investors by transferring personal assets worth about $60 million to the company.
The statutory manager noted that these were recorded in Aorangi by way of a journal entry, not by completed legal transfer.
The latest Grant Thornton report, which was released this week, makes for gloomy reading because Jean Hubbard personally, and as the executrix of her late husband’s estate, is now claiming ownership of these assets.
Grant Thornton wrote: “This is contrary to public pronouncements and statements of intention previously made by the Hubbards that the ‘introduced assets’ belong to Aorangi.”
The court has conditionally allocated a hearing date in Timaru in late October to decide this issue.
If the court decides in Jean Hubbard’s favour – and Grant Thornton admits that the transfer of legal title was not completed as far as most of the assets were concerned – then Aorangi investors may receive back no more than $20 million of their $96 million.
Hubbard Management Funds (HMF) was a traditional investment management business run by Allan Hubbard. Client assets were valued at $82 million by Hubbard as at March 31, 2010.
However, HMF had inadequate accounting standards, investors were allocated shares and other investments that did not exist, and portfolios were overvalued in individual statements sent to clients.
Grant Thornton estimated that these assets were worth only $42.5 million on June 20, 2010, the date of statutory management.
Approximately $20 million of HMF’s client funds were invested in companies associated with Hubbard and 24 per cent in high-risk unlisted companies.
The statutory manager concluded that HMF was a collection of individual investment portfolios, managed by Hubbard, on a fully discretionary basis.
However, client statements often reflected the intended position rather than the actual position.
In his Timaru High Court decision, dated June 1, Justice Lester Chisholm took a different view when he wrote, “In 2004 there was a transfer of investments from various HMF holder accounts into the name of Hubbard Churcher Trust Management. It appears that this was to reduce the administrative burden.”
Justice Chisholm determined that the statutory manager should allocate client returns on a pooled, rather than an individual portfolio, basis.
As a result, some of the $9 million already paid to investors will have to be returned by them.
After this an estimated $45 million will be distributed to investors – through the pooled method – compared with the March 2010 estimate of $82 million.
South Islanders often brag about their old-fashioned standards and ethics, particularly compared with Auckland.
The Perpetual/Torchlight deal and the Aorangi and HMF statutory managements demonstrate that South Islanders don’t always adopt best practice.
The Hubbard saga, which includes South Canterbury Finance, has been a huge cost to taxpayers and investors.
In addition, the Aorangi and HMF statutory managements have run up costs of $9.4 million and the clock is still ticking.
Our capital markets will not recover while these debacles continue to occur.