The investment in Mako Networks seemed like a good idea at the time. Photo / File
"I am devastated for my son Adam that all of his early inheritance has been lost after he invested it in Mako Holdings," Caroline Banks says.
"I decided to give Adam money while I was still alive to give him financial independence, rather than wait until I die," she says.
In a case now being heard at the High Court at Auckland, her son, self-employed Adam Banks - claims he lost a $2.4 million investment in network hardware maker Mako Networks after its directors made allegedly misleading and untrue statements about the company's financial position, and allegedly made misrepresentations about a key debt restructuring agreement with Spark, which ultimately led to the company's downfall.
Banks says Mako's directors failed to comply with the Securities Act when raising money from him as a member of the public. He wants his money back in full.
He claimed at a June 2017 preliminary hearing that the directors permitted the company to trade in circumstances where large losses were being incurred, which meant that the capital of the company would be lost and that claims by creditors would be rendered valueless.
The four former Mako directors named in Banks' civil action, Bill Farmer, Simon Gamble, Chris Massam and Doug Frederick, are fighting his claim. Farmer, Gamble and Massam were in court but declined to comment while the case was being heard.
Banks, who moved to New Zealand from the UK in 2008, was approached by Farmer about investing in Mako in late 2010, according to his statement of claim.
Based on statements made in an investor document produced in November 2010, and conversations with Farmer, Banks agreed make three investments totalling $2.4m over three agreements (one in 2011 for $1.3m, one in 2013 for $600,000 and one in 2014 for $500,000). Banks' understanding was that his debt investments would convert to equity when a public listing - variously proposed for the NZX and the Nasdaq - took place.
The November 2010 document predicted pre-tax profits in the tens of millions for 2013, 2014 and 2015.
In the event, Mako's revenue stalled in the $3m to $5m range as a string of deals in the US for its network security hardware failed to materialise, at least on the scale promised.
A projected $8m profit for the year to March 31, 2012, turned into a net loss, after tax, of $6m.
Another investor, who was asked to put money into Mako but ultimately did not, questioned what he saw as the directors' overly generous compensation during the three years before its collapse - a period that saw the company's finances deteriorate to the point that two sets of auditors raised going-concern flags.
Auditor Deloitte tagged the company's 2013 accounts, noting Mako made a net loss of $7.8m on $3.1m revenue, and an overall net deficit in equity of $13.9m.
"These conditions indicate the existence of a material uncertainty that may cast significant doubt about Mako Networks Holdings and the group's ability to continue as a going concern," Deloitte said.
For the 2014 financial year, new auditor Grant Thornton reached the same going-concern conclusion after noting a net loss of $11.7m on revenue of $4.4m and an overall net deficit in equity of $23m.
Although 2012 accounts were not audited, according to a Deloitte statement, the 2013 filing said in the prior year, Mako paid a Bill Farmer-controlled company, Standalone Investments, $588,355 for consulting plus $120,542 expenses.
The 2013 accounts recorded no director's salary for Farmer but stated that his Standalone Investments was paid $515,674 for consulting services plus $101,569 for expenses.
Mako's 2014 accounts show Farmer had remuneration of $575,000 (co-founder Gamble, also boss of Mako's North American division, received $301,096; co-founder and VP/client services Massam $200,000 and others $110,000 or lower).
The potential investor questioned how Farmer - who was chief executive as well as a director - could accept total remuneration of $1.9m across 2012, 2013 and 2014 in those circumstances.
He said Farmer's remuneration was - inappropriately, in his view - on a par with Xero's chief executive of the time, Rod Drury, who was paid $575,000 (with no share options) in 2015 heading a listed company with $123.9m revenue and 1200 staff and a proven ability to raise new equity.
Farmer said shortly before his company's collapse that Mako had spent $25m on research and development. The Ministry of Science and Innovation (later absorbed into Callaghan Innovation) awarded Mako a $4.3m R&D grant in 2011. A Callaghan spokesman said only $1.4m of the funds were ever drawn down.
Mako developed a network security product for Telecom called Secure Me, but also incurred asset finance debt with subsidiary Telecom Rentals. In early 2014, that debt was restructured to give Mako a two-year debt holiday - after which a 13 per cent interest rate was to be paid (in February 2014, Telecom changed its name to Spark).
But it continued to struggle and on August 20, 2015, Mako went into voluntary liquidation owning about $30m. Waterstone Insolvency's Damien Grant and Steven Khov were appointed liquidators.
The following day, KordaMentha's Neale Jackson and Brendon James were appointed joint receivers by the largest creditor, Spark, which was owed $29.9m.
"Unfortunately, 18 months on [from the debt restructuring deal], Mako's financial position has deteriorated to the point that Mako directors have decided Mako cannot continue normal business operations. It is disappointing to see an innovative New Zealand technology company struggle in this way," a Spark spokesman said at the time.
The pair were able to realise $3.1m, mostly from a $3m trade sale to one of US Mako distributors, D&S Communications.
Of that, the only substantial distribution was to Spark, which received $2.5m, the first-ranked creditor as per the terms of the 2014 debt restructure.
Staff got a partial payout on salary owed.
IRD had a preferential claim for $139,000 but Jackson and James' final receivers report noted "there were insufficient funds available to make any payments to Inland Revenue".
Adam Banks received nothing.
In a June 2017 preliminary hearing, the defendants argued that Banks was a habitual investor. Experienced investors or "those who invest habitually" are exempted from some of the protections of the Securities Act.
"Plainly, the expression was adopted by the legislature to differentiate between persons who were sophisticated in the matter of investment and securities, and who therefore presumably would not require the same level of statutory protection, from those who were not as accustomed to dealing with such matters. The latter group are deemed vulnerable, while the former are not," Justice Jeremy Doogue said in his judgment.
Banks said he was not a habitual investor. He declined to answer Herald questions about his career, beyond offering the broad description that he was self-employed.
His claim was backed by a report commissioned from professional director Bevin Killick (bolstered at the trial now under way by a brief of evidence from PwC partners David Bridgeman and John Fisk).
Doogue said his judgment published on July 11, 2017 (see below) that Banks "has a good arguable claim", leading to the full hearing that started last week.
Asked if the Serious Fraud Office is investigating Mako, a spokesman said: "The SFO is aware of this matter. As the matter is currently before the Court, the SFO has no further comment to make."
The case, in front of Justice Simon Moore, is due to run to July 19.
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