KEY POINTS:
Securities Commission chairwoman Jane Diplock's letter in Tuesday's Herald showed once again that she blames everyone else for the huge appeal and subsequent collapse of the finance company sector.
Diplock wrote that the finance company failures were due to poor corporate governance, flawed business models, miscalculation of risk, falling property prices, some criminal activity and a light-handed regulatory regime that was overseen by trustees and unregulated financial advisers.
In other words, the commission isn't taking any responsibility for the finance company debacle even though one of its main objectives is "to strengthen investor confidence and foster capital investment in New Zealand by promoting the efficiency, the integrity and cost-effective regulation of our securities markets".
How can the commission be responsible for strengthening investor confidence and fostering capital investment when it claims it has no oversight role with regard to finance companies?
Diplock's views are best summed up in the first few sentences of her letter as follows: "Brian Gaynor and a correspondent suggested the Securities Commission failed to 'oversee' the prospectuses of failed finance companies. The commission's role is not and never has been to approve prospectuses or investment statements. The responsibility for the correctness of information lies with the promoters and directors themselves. When the Securities Commission finds that a prospectus may contain false or misleading statements, its role is to enforce the law against those responsible."
My column on December 20 never suggested that the commission has to approve prospectuses or investment statements but it does have an oversight role. This role is clearly spelled out in the following statement from the Securities Commission website about the commission's authority over offer documents and advertising:
"Most investments promoted to the public require two offer documents - an investment statement and a registered prospectus. These documents should provide all the information an investor needs to make an informed decision on whether or not to invest. Offer documents and advertisements for securities must not contain information which is likely to mislead, confuse or deceive investors.
"The commission reviews offer documents and advertisements for securities. If they do not comply with the law, the commission can suspend or cancel offer documents, remove a prospectus or investment statement from the market, ban advertisements, and publicise these actions."
The commission has a major oversight role in relation to investment statements, prospectuses and advertising and has used these powers on a number of occasions including:
- In 2001, it warned investors about the quality of many offer documents promoting forestry investment schemes, including advertisements and website offers.
- The commission banned offer documents for the James Smith Car Park Property Scheme in 2004.
- Advertisements for investments in the Global FX Secure Trust 11 were banned in 2006 because there was no prospectus or investment statement.
- In October 2006, the commission prohibited some advertisements for a new unit trust offered by Mark Hotchin and Eric Watson's Hanover Funds Management because they were likely to mislead or confuse investors about potential returns.
- The commission cancelled the prospectus of finance company Classic Capital in 2007 because it failed to disclose that the promoter and sole director had been bankrupt in Australia and was facing forgery and dishonesty charges.
The Securities Commission has a clear oversight role, particularly when an investment statement, prospectus or advertisement is misleading, confusing or deceptive.
According to the commission's 2005 Report on Disclosure by Finance Companies: "For investors to make informed investment decisions the risks associated with the investment (in finance companies) must be sufficiently disclosed. The investment statement must provide investors with enough clear information about the risk of the investment for the investor to comprehensively understand the risks involved."
It went on to state that "inadequate disclosure is likely to mislead investors". This shows the clear link between inadequate disclosure, investors who are misled, confused or deceived and the ability of the commission to ban inadequate offer documents.
This columnist believes that most finance company offer documents were woefully inadequate and gave investors little idea of the risks they were being exposed to. Prospectuses were slightly better than investment statements but investors are usually only given the latter and the former is generally not available unless specifically requested.
An investment statement issued by Bridgecorp at the end of 2002 is a good example of this woeful disclosure. There was no financial information in the investment statement, no related party information, no mention of lending to property developers but there was a strong emphasis on the company's insurance policy with Lloyd's of London.
In a brief description of its lending policies, Bridgecorp stated that its lending policy "must meet the terms of the loan insurance policy with Lloyd's of London". This gave the strong impression that the Lloyd's insurance arrangement was meaningful yet it proved to be worthless when Bridgecorp collapsed.
At the same time, Bridgecorp had an extensive television advertising campaign with a strong "minimise the risk" message when most informed business people knew that Rod Petricevic was one of the country's biggest risk takers. His company had also been refused NZX listing because of its dodgy practices.
The commission has no control over dodgy practices but it can ban offer documents and advertising if they are misleading, confusing or deceptive. Bridgecorp fell into this category.
The commission's 2005 report on finance companies also noted that accurate revenue disclosure was important and full information should be provided on related party transactions.
Although the commission is a strong advocate of better disclosure, the Hanover Finance moratorium documents, for which it had an oversight responsibility, was totally inadequate in this regard.
Why didn't the commission insist that the Hanover moratorium documents have full disclosure, particularly on related party transactions and on revenue received and capitalised?
Unfortunately, the commission has consistently given the impression that it doesn't want to act until a crash has occurred, until there is a mess to mop up. It continually argues, as Diplock did in her letter to the Herald, that it has limited powers. The glass is half empty, rather than half full, as far as the commission is concerned.
Yet the regulator has huge powers that it rarely uses.
One of its roles is to review securities laws and make recommendations for reform to the Ministry of Commerce. If the commission believes it is powerless to achieve its objective "to strengthen investor confidence and foster capital investment in New Zealand" then it should go to the Government and insist that it be given the tools to achieve this aim.
The Shareholders' Association, under the leadership of Bruce Sheppard, has no regulatory or statutory powers yet it can be argued that it has achieved more, in terms of investor education and protection, than the Securities Commission.
The main argument in my December 20 column was that the Securities Commission is far too quiet and docile. New Zealand investors badly need a champion to protect their interests and to lobby for regulatory reform if the rules and regulations are inadequate.
I asked Diplock to take up this challenge but the tone of her Herald letter suggests she is still far more interested in making excuses for not taking affirmative action, particularly in relation to offer documents that are misleading, confusing or deceptive.
* Disclosure of interest: Brian Gaynor is an executive director of Milford Asset Management.
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Jane Diplock's letter to the Herald, 30/12/2008
Brian Gaynor and a correspondent suggested the Securities Commission failed to "oversee" the prospectuses of failed finance companies.
The commission's role is not and never has been to approve prospectuses or investment statements.
The responsibility for the correctness of information contained in prospectuses lies with the promoters and directors themselves.
Where the Securities Commission finds that a prospectus may contain false or misleading statements, its role is to enforce the law against those responsible.
The grief and anger of investors who have lost money in the finance company failures is understandable and in many cases warranted. It should be directed at those responsible for these companies and those who recommended investors invest in them.
These failures were often brought about by poor corporate governance, poor business models, miscalculation of risk, a falling property market and in some cases criminal activity. These companies operated under a very light handed regulatory regime, overseen by trustees, and investors were advised by an unregulated industry of financial advisers.
Following recent legislative changes, reforms in both of these areas are under way. In relation to Bridgecorp and Nathans, the commission has issued civil and criminal proceedings against nine directors. In relation to the civil proceedings, the commission has sought a determination of civil liability which may provide an avenue for compensation for investors who relied on the relevant prospectuses.
Other finance company directors are under investigation. This is the appropriate role of the commission and the commission is actively and energetically pursuing these matters.
Jane Diplock, chairwoman,
NZ Securities Commission.
