While
Allan Hubbard, the autocrat controlling South Canterbury Finance, developed a
sainted reputation as benefactor for good causes his finance company was
desperately hiding the extent of problem loans by window-dressing its balance
sheet. By moving problem loans off
balance sheet prior to balance date and taking them back later, South
Canterbury presented a healthier picture than justified.
Mr Hubbard died in
September 2011 following a car crash. He
left behind a finance company under government control following a $1.6 billion
bailout and criminal prosecutions against former directors of the company and
its chief financial officer. Poor lines
of control within South Canterbury Finance and weak accountability caused
evidentiary problems for prosecutors trying to sheet home criminal
liability. A single director, Edward
Oral Sullivan, was convicted. On a charge of deception in relation to a 2006
transaction, he was held to have deliberately misrepresented who was the end
purchaser of shares in a Hellaby Holdings subsidiary in order to defeat operation
of the Takeovers Code. He was also
convicted of Securities Act offences for material non-disclosures of related
party lending.
The most serious
criminal charge faced by directors was an allegation that they used false
financial statements to get a 2008 government guarantee of South Canterbury
investors’ deposits. This charge was
dismissed when there was no proof that the government actually relied on the
financial statements when admitting South Canterbury to the guarantee scheme.
The then Labour
coalition in New Zealand was blindsided in October 2008 when the Australian
government suddenly announced a federal guarantee of depositor’s funds. This was designed to calm investors’ nerves
in the face of worldwide banking instability and the threat of a run by
depositors on banks. Two days later, the
Labour government announced a similar guarantee scheme for New Zealand deposits
to prevent a flight of investor funds to Australia. Within 48 hours South Canterbury applied to
join the scheme. Approval was given
three weeks later.
The High Court was
told South Canterbury provided copies of its most recent audited financial
statements in support of its application.
It was alleged that the figures had been massaged. There was evidence that South Canterbury
management had a history of window-dressing its balance sheet to hide the
extent of asset impairment. The
prosecution described methods used as being “purposefully structured to hide
high risk lending” and moving “beyond the cavalier to the dishonest”. One internal South Canterbury finance memo
talked of “cheque-swapping at balance date” and the creation of a “façade”.
Evidence was given
that South Canterbury’s parent company, Southbury Group, would acquire problem
loans from South Canterbury shortly before balance date. This removed any need to disclose the
impaired loan which was now replaced in South Canterbury’s records with the
injection of new funds to replace the non-performing debt. After balance date the transaction would be
reversed. Asset impairments were
understated as a result. Management had
no incentive to manage non-performing loans when they were being hidden from
analysts and investors. Any complaints
within South Canterbury about the practice were waved away in autocratic
fashion by Mr Hubbard. Attempts by the
auditor to keep tabs on what amounted to related party lending proved
ineffective.
One example of
window-dressing described in the High Court was false accounting entries made
ten days before balance date in 2009 recording a fictitious transaction between
Southbury, South Canterbury and Kelt Finance Ltd. South Canterbury supposedly was advancing $10
million to Kelt Finance which in turn lent $10 million to Southbury which in
turn paid $10 million to South Canterbury.
The effect of this fictitious money-go round was to misleadingly reduce
related party indebtedness between Southbury and South Canterbury by $10
million and hide the fact that South Canterbury was in breach of loan limits
with Southbury.
Justice Heath ruled
that even if the financial statements used to obtain a government guarantee of
investors’ funds were false, there was no evidence that the government relied
on these financial statements before granting the guarantee.
There was evidence
that in October 2008 there were such grave concerns about a total financial
collapse that finance companies were being admitted to the scheme with minimal
prior checks. Government did not decide
which financial organisations would be given a guarantee; that decision was delegated
to the secretary of the Treasury. The
court was told applications were sent to the Reserve Bank for analysis. Bank analysts gave a “negative assurance” in
respect of South Canterbury’s application: they had no reason to believe it
should not be approved. The final decision
remained with Treasury and was at the discretion of the secretary of the
Treasury. Evidence was given that there
was no written record of reasons why the secretary of the Treasury gave
approval for South Canterbury to be admitted.
He was not called to give evidence at the trial.
R. v Sullivan, White & McLeod
– High Court (14.10.14)
14.047