Fran O'Sullivan: Alarm bells were deafening on SCF woes

Fear of a political backlash from South Canterbury's well-connected investors may have swayed the Government. Photo / Dean Purcell

Kiwi taxpayers should be asking why they have had to stump up a $1.77 billion cheque to "bail out" investors in collapsed South Canterbury Finance.

As Government-orchestrated financial bailouts go this is the biggest in New Zealand's history - dwarfing that of the $600 million Bank of New Zealand bailout in 1990.

The difference is that this time it is the investors who get lucky. The shareholder (Allan Hubbard) loses his shirt. But the company closes its doors and the Government recoups as much of the $1.77 billion as it can through the receivership process.

Most of the 35,000 New Zealanders who were enticed to put their savings into Hubbard's former flagship did so because they were attracted by returns which were much higher than those offered by the trading banks.

But unlike the hundreds of thousands of investors - who between them have lost more than $4 billion in the string of finance company collapses - they have been spared as a result of the retail depositors' guarantee scheme that the Labour Government introduced (with National's connivance) during the November 2008 election.

Make no mistake about this.

South Canterbury Finance would not have lasted long without the government guarantee. It was already out of control by mid-2008 as a result of Hubbard's decision to allow his wonder boy manager Lachie McLeod to bet too much of the bank on property investment, over-valued dairy farms and (of course) related party transactions. Not sticking to South Canterbury's knitting was the core mistake.

It would only have been a matter of time before the finance company would have fallen prey to its next deadly sins: Out of cash and out of capital.

Finance Minister Bill English owes taxpayers a clear explanation over why the new National Government did not insist Treasury undertake a deep due diligence on South Canterbury Finance before it was brought within the guarantee scheme.

It was, after all, only a matter of months before the Government was making multi-million dollar provisions in its own accounts for finance company failures.

It's not as if National governments have not been confronted with these issues before. Jim Bolger's Government tipped $600 million new capital into Bank of New Zealand in 1990 to stop it having to close its doors. But the Bank of New Zealand was a prime New Zealand trading bank. The Government was its major shareholder.

Did the new National Cabinet simply decide South Canterbury was in the "too big to fail" category? Or was it fear of a political backlash from South Canterbury's well-connected investors that swayed the Government?

Corporate doctor Sandy Maier was brought in to run the company late last year and Hubbard was quickly eased out as new directors took control.

Irrespective, it is risible that the Government did not simply pull the plug when the finance company's new auditor Ernst & Young ran the ruler over the operations. The six-months-to-December report - released in April - outlined increased impairments contributing to a $198.6 million loss for the 85-year-old company.

The auditors raised concerns over the ability of the finance company to continue as a going concern because the directors' estimates and assumptions contained "uncertainties" regarding the "adequacy of funding and liquidity; sufficiency of capital, and compliance with regulatory requirements" in its trust deed and trustee waivers.

Instead, South Canterbury became the beneficiary of an extended government guarantee - extraordinary given that KordaMentha had been advising the Government on South Canterbury since mid-2009.

The Government's subsequent decision to slap Hubbard into a commercial strait-jacket and call in the Serious Fraud Office removed any faint hope that Maier might have had of recapitalising the company through a major retail fund raising. The brand damage was just too big.

The Government could have mitigated the Crown's overall exposure by tipping South Canterbury into statutory management months ago and asking Maier (the former DFC New Zealand statutory manager) to simply change hats.

This would have preserved more value.

As it is, investors like George Kerr's Torchlight Fund - which came to the party late last year with preference capital when US investors pulled out - are now in the box seat ready to cherry-pick assets when the receiver puts them on the block.

Not very smart, really.