Opinion & Analysis
Way back in the mists of 2010, a certain private equity fund called Torchlight trousered fistfuls of cash on a $100 million loan to South Canterbury Finance.
OPINION: It was a classic distressed lending deal and tales of its profitability have assumed legendary proportions, although since it effectively ended up costing taxpayers a lot of money much of the admiring tends to be done through gritted teeth.
As a result, there may be some schadenfreude doing the rounds after Torchlight's collision with the Financial Markets Authority this month. The background to that stoush is intriguing in itself, but on delving into Torchlight's primordial soup, Chalkie's probing fingers have touched on an apparent debt which may alter the picture further.
Torchlight exists as an opportunist investor in distressed assets. It is structured as a limited partnership, in which private investors hold stakes, with a general partner as manager.
The general partner is a limited company called Torchlight GP 1, which is owned by a subsidiary of Perpetual Group, the asset management and trustee unit of listed company Pyne Gould Corporation.
Torchlight's investors are believed to include PGC managing director George Kerr and chairman Bryan Mogridge.
First, let's rewind and see how Torchlight fared on its South Canterbury deal.
The arrangement dated back to October 2009 when Torchlight loaned $75m to South Canterbury on terms giving it a prior claim on the finance company's assets - ahead of debenture holders. By June 2010 the lending was increased to $100m, all with prior ranking security.
As a result, when South Canterbury fell over that August the Government, having guaranteed all its debentures, prudently decided to pay out prior claims rather than have Torchlight take control of the receivership.
The total payout was $175.2m.
South Canterbury Finance prospectuses show that in June, two months earlier, these prior ranking charges totalled $151m.
Not all of that was Torchlight, but Chalkie calculates the private equity fund would have got at least an extra $16m in the final two months, on top of interest already racked up on its loan.
That, from Torchlight's point of view, was a pretty good day at the office.
It was based on strong positioning as a lender to a desperate enterprise. Despite the appearance of risk as Allan Hubbard's empire teetered, Torchlight had a rock solid prior claim on ample collateral and powerful leverage over the Government if the company collapsed.
Granted, it wasn't great from taxpayers' point of view, but the pound of flesh was extracted in textbook style.
Having shown some form early on, Torchlight has tried to repeat the feat with a troubled Australian real estate company called RCL, only this time it has gone a bit wonky.
The transaction opened in November last year, when Torchlight took over about A$200m (NZ$257m) of loans to RCL from Bank of Scotland International. The deal gave Torchlight a grip on RCL's short and curlies, which it duly tightened by calling in receivers in February.
RCL's assets include real estate loans and development land on both sides of the ditch, with the New Zealand portion focused on the Queenstown area, including the now famous finance company graveyard of Jack's Point.
We don't know exactly what the terms were when BOSI assigned its loans to Torchlight, but Chalkie understands they involved a requirement to settle up some time in February.
According to Kerr in a telephone interview, the wash-up allowed for some variation and Torchlight found itself short about A$14m.
To bridge the gap, it tapped money from funds run by Perpetual under an arrangement apparently negotiated when Kerr's company Pyne Family Holdings underwrote a PGC rights issue in 2009.
Kerr insists this was an "interfund" deal commercially beneficial for both sides - Torchlight got its short-term finance and Perpetual's cash fund got a 12 per cent return, which was way more than it would get from bank deposits or mortgages.
He also says Perpetual had a general security agreement covering all Torchlight's assets, which included cashflow of $8m a month, as well as specific mortgages on several pieces of Queenstown and Wanaka real estate, so the risk factor was negligible.
Chalkie will suspend judgment on whether this arrangement would have worked out, but it's clear it rang alarm bells with Perpetual's statutory supervisor and the FMA.
The reasons are obvious. The money in Perpetual's funds belongs to mum and dad investors, who were expecting conservative management and modest returns. Call it interfund if you like, but lending their money to a related party on a short-term deal whose interest rate implied a higher level of risk was probably not the sort of thing they had in mind.
Even Perpetual's own head of corporate trust, Matt Lancaster, thought it was outside the fund's investment criteria to lend to Torchlight, according to court documents relating to the FMA and Perpetual Trust.
The circumstances also suggest emergency and raise the question of why, if solid security and liquidity was available, Torchlight couldn't get the money more cheaply from a bank.
And given Torchlight's initial borrowing quickly escalated to $28m, Chalkie reckons the February settlement wasn't the only thing it needed money for.
Under the circumstances, Chalkie thinks the FMA's hostile reaction was entirely predictable, which makes it all the more alarming that Torchlight and PGC felt it was a sensible thing to do.
Anyway, while Kerr wrestles with that issue it looks like the remnants of another transaction may still be hanging around like the proverbial bad penny.
As far as Chalkie can make out, some of RCL's Queenstown land assets are held by a company called Arith Holdings, although it's hard to be sure because Arith's ultimate ownership isn't clear given the involvement of trustee shareholders.
Property records indicate Arith's remaining land assets amount to about 150ha in the Jack's Point area.
It appears these titles were at one stage mortgaged to South Canterbury Finance - records indicate mortgage transfers taking place around October 2009, coincidentally about the same time Torchlight opened its account on lending to South Canterbury with a $75m credit facility.
Those mortgages appear to have been paid off and current mortgages on the land trace to a subsidiary of RCL.
However, Chalkie's sources reckon the Arith structure spawned a rogue loan, still doing damage like a free radical wrinkling up your skin cells.
The sources say the debt is about $30m and is owed to Crown Asset Management - the government entity set up to handle all the bad loans from South Canterbury, among others.
WHO IT is owed by seems to be a matter of debate.
On paper, there is a security in favour of Crown Asset Management registered against a company called Arith Security Holdings, whose ownership tracks back to interests associated with Kerr and long-time business associate John Darby, a Queenstown property developer whose work includes several high quality, upmarket local projects including Jack's Point.
Darby, however, is adamant no debt is outstanding to the Crown, saying Arith Security Holdings was a lender to Arith Holdings and doesn't owe any money. Kerr has made no comment on the issue.
The company itself is about to be struck off the register because it has ceased to do business.
The origins of any debt relating to the security are obscure. Companies Office documents date it to September 2009 and list collateral stemming from a deal between Arith Holdings and long-standing Queenstown real estate investors Brian Chang and Alice Pei Lu Ree of Singapore, but beyond that it's hard to be sure.
The land involved in that deal now appears to be owned by RCL through Arith Holdings. Given the uncertainty Chalkie is reluctant to make a call on what went on, but if the sources are right it looks like a mystery Crown Asset should do its best to solve. Chalkie reckons we don't want $30m going begging.
- Chalkie is written by Fairfax Business Bureau's Tim Hunter.