by Tim O’Dwyer M.A., LL.B
The sad truth, says barrister and accountant Geoffrey McDonald, is that three recently collapsed property investment companies were ticking time bombs which investors should have seen coming. While sympathetic to those affected by these failures, McDonald writes in propertyreview.com.au that prudent investors must always take responsibility for determining risks attached to particular investments and face the consequences if things go wrong.
Consumer advocate Neil Jenman, writing about the same collapses on his website (www.jenman.com.au), uses the same “ticking time bomb” metaphor, but claims inexperienced investors cannot tell the difference between safe investments and high-risk investments. “Something is really wrong in our society when we blame victims for being cheated,” laments Jenman.
Meanwhile McDonald, a partner and national chairman of Chartered Accountants Hall Chadwick, repeats the golden rule of investment: the higher the promised reward, the higher the risk. “It must be remembered,” he adds, “there will always be failures in business, no matter how upsetting it may be – and no amount of regulation can eliminate that fact. Such problems can be caused by mismanagement, a cyclical turn down or just plain bad luck.”
While McDonald says the Australian Securities and Investment Commission (ASIC) needs to determine whether investors who lost money in the recent collapses were “disadvantaged” by any misrepresentations about “secured investments”, Jenman wants the focus where he says it really belongs –on corporate cowards who through dishonesty and incompetence cause the losses, on trusted personalities paid to endorse the cowards and on ASIC for not publicly warning about specific companies and directors.
McDonald explains the major changes in property lending, once dominated by the big banks, over the past decade. Now hundreds of companies lend money on property transactions, but stand to “share” any loss from a property market crash. Significantly involved in the recent crashes of Westpoint ($400 million lost), Fincorp ($290 million lost) and Australian Capital Reserve (ACR) ($330 million lost) are the new property sector lenders – mums, dads and retirees bearing the greatest losses as “natural victims” of a property market downturn.
Encouraged by peer group pressure and seduced by promises of high returns many such “investors”, says McDonald, neglected to do their homework when offered a one-stop opportunity (including finance) to enter the property development market. Buoyed up by a booming market, they were confident of a profitable and secure future but were not told they were gambling their homes on a “notoriously cyclical” market which “inevitably” turned downwards.
The government regulates financial planning and capital raising but has left, McDonald says, a “comparative hole” in the property investment area. As a result the unregulated finance broking and home loans industries moved into this area. Growing numbers of mum and dad investors were the target of capitalists or entrepreneurs needing funds: “The entrepreneurs looked for investors … to back their ideas and plans.” These “lower down the pecking order” investors did not recognise that, when the property market turned down, they were “bound to lose their money”.
Directors of companies where little people invested are not legally required to be open about their problems, continues McDonald. Their calculations, forecasts and budgets no longer added up once the market turned and end sales figures were reduced. However, according to McDonald, instead of reacting to the likelihood of losses directors continued with projects: “They knew the money was not going to run out for one or two years, so they continued in the hope that the prices might have rebounded by then. If they rebounded, the project would have become successful and the investors would have been paid out. So why not hang on in hope, not telling the investors that the internal calculations no longer balanced? The commitments had been made, so what could be done?”
If directors were legally obliged to act on new future forecasts, McDonald explains, their companies should have closed down earlier. Unfortunately the property market did not improve. If all of these companies had to close at the same time, the market would have been flooded with fire sales and the crash would have been worse. The question, says McDonald, is whether we want directors legally required to immediately close down when they suspect the numbers do not add up. The law presently obligates a company to close when directors suspect it is insolvent. Failed property investment companies may have had money in the bank, so were probably were solvent until near the death. “It is only now that the money has run out, even though the cause occurred two years ago when the property market crashed,” Mcdonald remarks.