Jenny Ruth: Shifting up a gear

One of the most highly geared balance sheets I can remember belongs to Lombard Finance & Investments.

At March 31, 2004, the latest available accounts, Lombard's equity was less than 1 per cent of its total assets, just $886,768 of equity against $99.7 million in total assets.

It also had a raft of loans many times the size of its equity including one between 880 per cent and 889 per cent of equity. It had 26 different loans which were more than 100 per cent of equity.

The company has grown extremely fast. It was only founded in October 2002 and is part of the wider Lombard financial services group which has been around since 1989 and began trading in December of that year. By the end of March 2003, total assets had swelled to $23.9 million and then grew more than fourfold in the following year.

The company only meets the ratios required by the trust deed for its debentures because it is allowed to treat the $7.3 million in subordinated unsecured notes it had on issue at March 31, 2004, as if it were equity.

Even then, equity plus notes were only 8.2 per cent of total assets.

If the company had pushed the limits allowed in the trust deed, the balance sheet could look even more highly geared: total liabilities are allowed to go to 20 times equity and notes which would have put them at $164.2 million instead of the actual $98.8 million.

You would expect investors in the debentures and the notes would be richly rewarded for the risk they had taken on. But the debentures paid only between 7.75 per cent and 8.99 per cent in interest and the notes paid between 10.4 per cent and 11 per cent.

The weighted average interest Lombard charged on its loans was 12.33 per cent, a further indication the company operates at the riskier end of the spectrum.

You wouldn't guess at any of this from the company's latest investment statement, the only document most investors would read. The company does have a number of aspects in its favour. It has three ex-Cabinet ministers on its board, chairman Sir Doug Graham, former justice minister, Hugh Templeton, former inland revenue, customs and trade and industry minister, and Bill Jeffries, former justice and transport minister.

Its liquidity at balance date was strong with $13.6 million in the bank, $70.9 million of its loans falling due within six months and a further $18.2 million falling due within six to 12 months.

Only $1.2 million of its debentures or notes fell due within six months and only $10.4 million within six to 12 months.

The bulk of its debenture and note funding, $75.2 million, wasn't falling due until between one and two years.

None of its loans were unsecured, although the company is allowed to have up to 10 per cent of its loans unsecured, and $66.1 million of its $84.9 million loan book was secured by first mortgages.

A further $18.2 million was secured by other mortgage and collateral securities and $636,796 by other forms of security.

Although Lombard had $4.4 million in non-accrual loans in March 2004 which owed it $406,938 in interest payments and a further $6 million in past due assets, given that they are all secured, it seems likely the company will be able to recover most, if not all, it is owed.

There were also no related-party loans although they are permitted up to 15 per cent of total tangible assets.

Lombard's lending is also spread throughout the country, although concentrated in Auckland, Wellington and Christchurch. Although most lending is against property, it is spread across commercial and residential properties and developments.

At March 31, 2004, $16.1 million was lent on commercial property development and $29.7 million on residential property development.

Managing director Michael Reeves says last year's balance sheet reflects the company's relative youth.

This year's accounts are being audited so he can't say exactly what the position at March 31 this year was except that the equity position has improved significantly.

"Our board is now pleased with the level of equity and the net profitability. It's the most significant focus on our calendar."

New accounting standards coming into force will mean Lombard will have to stop treating its notes as if they were equity. Reeves says a lot of finance companies have done this in the past.

The size of its largest loans relative to equity has also improved significantly. Generally, the larger loans are on development projects which have been completely sold. "Our exposure is to a developer who has actually sold all the sections," Reeves says. "Our lending is probably considerably more conservative than some people's."

Reeves is well aware that outsiders could form a "harsh" view of Lombard. "Everything about us is quite transparent. There's no clever accounting. In terms of governance and management, we're probably one of the finest teams money can buy. This is a well-structured, well-managed, well-governed company that's gone about doing everything in a high-quality way."

The company doesn't believe in related-party loans.

"We have a policy, self-imposed, of zero related-party lending. If we wanted to buy a photocopier, we couldn't finance ourselves."

He says the company has chosen to have all its advisers come from the "tier one" firms. KPMG is its auditor and its lawyers are Phillips Fox and Buddle Findlay.

 

Reeves says he suspects a number of other finance companies that have mushroomed in the past few years won't be in business long, but says Lombard won't be among them.

"Sure, we've got work to do and we're focused on that."

Lombard employs six bankers with between 12 and 30 years' experience, mainly former National Bank employees, and their contacts have contributed to the size of the company's transactions and its rapid growth, he says.

Key criteria in deciding to make a loan include the borrowers' competency and background.

"We need them to have a proven track record of success."

Despite being able to make unsecured loans, Lombard is unlikely to, Reeves says.

One of the company's more unusual assets is a sizeable holding in listed company Kidicorp which is in its books at $210,000.

Reeves says Lombard acquired the shares as part-payment of fees. When the shares get to 25c (they are trading at 15c), Lombard will probably sell them.

Lombard Finance & Investments

Head office: The Todd Building, level 6, 95 Customhouse Quay, Wellington.

Profile: Lombard lends on property and property developments across New Zealand.

Management: Managing director Michael Reeves, company secretary Graham Lovelock.

Major shareholders: Directors Sir Douglas Graham, Hugh Templeton, Bill Jeffries, Lawrence Bryant, Alan Beddie and Reeves.