Financial Markets Authority boss says a finance company, potentially Hanover, likely to be 1st target of FMA's ASIC style 'in investor's shoes' power

By Gareth Vaughan

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Financial Markets Authority (FMA) chief executive Sean Hughes says the first target of the Australian Securities and Investments Commission (ASIC) style power the FMA has to step into an investor's shoes and take civil action seeking compensation, is likely to be parties related to a failed finance company.

Asked by interest.co.nz in a Double Shot interview whether there were any active cases the FMA was considering in terms of possible use of its so-called Section 34 (of the FMA Act 2011) powers, Hughes - a former ASIC executive - suggested the Hanover Group was top of the list.

"I think we've made it clear in terms of our announcement in the Hanover proceedings that we are looking at not just the liability part of that decision, so the declaration of civil liability and the penalties, but we’re also looking at a broader compensation claim," Hughes said.

"I don’t want to talk too much about that matter because clearly it’s now before the courts and we’ve got to wait and see what defences are put in. But clearly the continuing asset preservation orders in relation to Mr Hotchin are designed to ensure that we can preserve assets for the benefit of any future investor claims, whether they be us directly, or on behalf of investors."

Upon its establishment a year ago much was made of the FMA being given this Section 34 power, based on a similar one ASIC has, which the FMA's predecessor the Securities Commission lacked. Effectively it enables the FMA to exercise a person's civil right of action.

So if, after an FMA investigation or inquiry, the regulator believes it's in the public interest to do so, it could exercise the right of action of a person (investor) by launching and controlling civil proceedings against "financial markets participants" or individuals including company directors, auditors or trustees. The FMA, which turns one today, could then seek money or "other relief" for fraud, negligence, default, breach of duty, or other misconduct.

One example of ASIC's use of its equivalent power saw it win up to A$67.5 million for investors in property scheme Westpoint from auditor KPMG and four former Westpoint directors. See full story on this here.

Hanover in its sights

A month ago the FMA filed civil proceedings against directors and promoters of Hanover Finance Ltd, plus sister companies Hanover Capital Ltd and United Finance Ltd. Under the Securities Act, proceedings have been filed against former owners Mark Hotchin and Eric Watson, plus directors and promoters Greg Muir, Sir Tipene O'Regan, Bruce Gordon and Dennis Broit. The charges relate to statements made in December 2007 prospectuses, subsequent advertising, and a March 2008 prospectus extension certificate.

The FMA is seeking declarations, pecuniary penalty orders and compensation for investors who made NZ$35 million worth of investments between December 7, 2007 and July 22, 2008. Former Hanover Finance chairman Muir has described the FMA's move to file civil proceedings as disappointing and said the directors would defend themselves against the FMA's claims. See more on this here.

The Serious Fraud Office has a separate probe into the Hanover Group on the go.

Property lender Hanover froze NZ$554 million owed to 16,500 investors in July 2008. Investors' subsequently approved a moratorium proposal in December 2008 that pledged to pay them back over five years. Then a year later after getting back just 6 cents in the dollar, Hanover investors narrowly agreed to swap their Hanover debentures for shares in Allied Farmers valued at 20.7c each which are now worth 4c each.

Hanover Finance's trustee was Guardian Trust and its auditor KPMG. Hanover Capital and United Finance both had Perpetual Trust as trustee and KPMG as auditor.

Hughes said of the Section 34 power that it was likely to be used "in the finance company space" to start with.

"Obviously what we want to do is get through these existing (finance company) prosecutions that have been taking up so much of our time recently and then look at the civil cases. A number of those criminal prosecutions that were launched also had civil cases attached to them, which we’ve stayed until the outcome of those prosecutions. And as you’d know as well we’ve announced civil proceedings in relation to the Hanover directors and promoters," said Hughes.

"So we’re looking at those cases at the moment as our first point of focus to say which of those are appropriate for a section 34 type action."

Tough public interest test

Hughes added that any Section 34 case would be different to a normal Securities Act case.

"What we’re doing there is saying 'if I was an investor in the FMA’s shoes would I have a right of action against either the trustee, or auditor, or potentially the directors themselves, and what sort of assets or recovery might I be able to get from them, either directly or through their insurance'?"

"Those cases have to be brought in the public interest so we’ve got to satisfy quite a significant public interest threshold to meet that test. So we’re not rushing into it because we are obviously using taxpayer funds when we run those cases."

Nonetheless Hughes said he understood there was a lot of interest, and "potentially some impatience," about the FMA launching a case under its Section 34 powers.

"I can assure you we are looking at them, but we’re not going to make a hasty decision just for the sake of saying ‘well we’ve done our first one’. Clearly we didn’t try to set ourselves one in our first 12 months."

Meanwhile, Hughes noted that lawyers representing finance company investors are also looking at bringing class action type law suits (although technically class action isn't possible under NZ law) meaning the FMA has to be "mindful of the interests of not only ourselves, of the receivers, but also those class action lawyers too."