Clouds over SCF long before collapse

Reserve Bank messages from early last year expressed concern at SCF's dependence on Allan Hubbard's ability to fix problems. Photo / Dean Purcell

It is surprising South Canterbury Finance survived as long as it did, documents released by the Reserve Bank this week show.

Emails from the Reserve Bank reveal its concerns about the risks and potential collapse of the troubled finance company stemmed back as far as April last year when it began to get nervous about the Crown's financial exposure.

On April 24 the Reserve Bank's Andy Wood questioned SCF's trustee over its confidence in SCF's auditors and whether they were competent.

Wood was concerned SCF was the Crown's single largest exposure in the retail deposit guarantee scheme but did not have a top tier accountancy firm.

"In my view, the situation reinforces the argument to appoint an independent investigating accountant to review SCF sooner rather than later," Wood said in an email to Treasury's John Park.

A month later, on May 20 last year, the Reserve Bank's Toby Fiennes paid a visit to SCF and became even more convinced that investigators should be brought in.

"It's all quite murky and ultimately dependent on Hubbard making things good in the event of problems. We obviously could not look at their asset quality in any detail.

"In my view it really would be sensible to get someone in to properly kick the tyres," he wrote to Treasury's Park.

In a more in-depth email to Reserve Bank Deputy Governor Grant Spencer, Fiennes said SCF's loan book quality looked patchy and had some "substantial exposures to landbanks in Auckland".

Fiennes said he had met Allan Hubbard who had stressed that he would "never let any SCF investor lose a cent".

But Fiennes said it was hard to rely on Hubbard's promise.

He also questioned a decision by Hubbard to swap out around $80 million of "good assets" from Southbury Group for loans that would have needed to be marked as impaired in the accounts of SCF.

"This was to 'keep the books clean' - [but] from our point of view, it has muddied the waters and also worsened the company's capital adequacy ratio, by our new rules."

Fiennes said Hubbard was bullish about farming and dairy and was reluctant to sell farms or related businesses. In a report on the visit by Andy Wood he concluded that SCF was an "idiosyncratic institution by virtue of its wealthy backer and his peculiar approach to business".

"While there is no suggestion of any improper behaviour, the risk remains that SCF's impaired assets are greater than Allan Hubbard's ability to absorb them and/or divest other assets to fund."

Wood said that based on the meeting he expected SCF to continue to pose "something of a challenge to our prudential regime".

"There was no suggestion that inter-group behaviours would be modified and it seems likely that we will have to consider exemption applications in respect of capital and related party exposures."

Wood said ongoing engagement and close scrutiny was warranted.

By July last year the Reserve Bank's Grant Spencer said it had heard back from the investigators and the outlook for SCF was not good.

"They expect crunch point likely in the October-December period."

A week later Spencer sent Governor Alan Bollard an email with his concerns after talking to SCF director Stuart Nattrass.

"They are clearly on the edge. Crunch point is $100 million rollover from BNZ that comes up in two weeks. S&P would clearly down-grade them if BNZ pulled out."

Spencer notes that KordaMentha is assessing SCF's loan book for BNZ and Treasury and the company is working on merger or capital raising deals.

"Banks are crowding the deposit/debenture space. Plus there is nervousness in the investor market - reinvestment rates are down to 50-55 per cent."

Spencer stated that SCF had hired Rob Cameron to "get the message though in Wellington" that the terms of the guarantee extensions would "determine whether they get a book of assets in their lap".

In August, Spencer attended a meeting at Treasury where KordaMentha says provisions on impaired assets at SCF should be $120 million to $130 million rather than the $40 million that management has allocated.

"This leaves a big hole ... new capital is needed.

"But any potential investors are deterred by poor cash flow, the uncertainty over the future of the guarantee and governance issues [the dominance of Allan Hubbard]."

Spencer said breaches were popping up including SCF's agreement on its $120 million US private placement because reinvestment rates had dropped to around 40 per cent.

He also noted that Hubbard had "had his cheque books removed" but did not say by whom.

Reserve Bank's Andy Wood said he understood Neville Harris, the Registrar of Companies at the Companies Office, had become "increasingly nervous" about SCF in recent weeks.

On August 10 last year, Wood advised Bollard and Spencer that KordaMentha's findings were worse than expected.

He advised that: "SCF only has sufficient cash for another couple of months. Overall SCF are in a precarious position.

"The short-term problem is insufficient liquidity. But KordaMentha also believe that the poor internal systems will make it difficult for an unrelated investor to do sufficient due diligence to commit additional equity.

"So not at all promising."

The Reserve Bank and Treasury decided to meet representatives of the BNZ and Commonwealth Bank of Australia who had provided funding of $50 million each to SCF.

CBA and BNZ said they would not tip SCF over but were also not prepared to lend SCF any more money to support the business.

The meeting notes reveal KordaMentha believed SCF were likely to fail within a month given the number of interested parties circling it - these included the Companies Office, SCF's trustee, auditor and S&P.

On August 14 last year Finance Minister Bill English was briefed on the "magnitude of SCF's situation" and told the best options were receivership or statutory management.

He was told statutory management would give the Crown more influence over the approach to asset sales and would allow the "net" to be cast more widely across various Hubbard entities.

Wood said the Crown would prefer SCF to approach it to ask for statutory management but did not believe the SCF board had a common view on the "gravity of the situation" facing SCF.

Neville Harris had already briefed Commerce Minister Simon Power on the potential for putting SCF into statutory management.

But English was told no urgent action was required.

SCF director Stuart Nattrass wrote to English and said the company was in talks with a prospective equity investor which could see a $150 million injection made into the company by around September 7.

He asked the Government for support to ensure its US investors don't pull their money out but English wrote back to say that it was unlikely the Government would provide assistance at this stage.

SCF continued to scrape through and in February this year asked to be given an indication as to whether it would be included in the extended deposit guarantee scheme in order for it to seal a recapitalisation deal.

But Treasury said it would not provide an advance "in principle" approval.

SCF finally collapsed on August 31 this year after it failed to get a recapitalisation together, resulting in a $1.775 billion Government payout.

* For the full documents see: http://www.rbnz.govt.nz/finstab/nbdt/scf/index.html