Mainzeal directors ignored forex loan risk
Directors of failed property company Mainzeal, including former Prime Minister Jenny Shipley and former Brierley Investments boss Paul Collins, should have known there was a high risk they wouldn’t get back millions of dollars they had lent to Chinese sister company MLG Trading, the High Court heard this week.
Former MFAT official and China expert Charles Finny was giving evidence in a case taken by Mainzeal liquidators BDO to try to recover around $75 million for creditors, including subcontractors on various Mainzeal building projects.
Finny said complicated foreign exchange regulations enforced by a number of Chinese state and local bodies meant it was hard to get foreign currency payments out of China in the decade before Mainzeal went into liquidation.
That meant directors should have been factoring in the impact of potential non-payment of the company's loan far sooner than they did.
“There was every chance that approvals for repatriation of these funds might not be forthcoming. If I were commenting on the company’s risk register, I would see this issue as being one of the highest risks facing the company,” Finny said in his brief of evidence.
Mainzeal went under in February 2013. Liquidator BDO argues, among other things, that directors should have recognised earlier that loans to China were at risk and that the company’s viability was in question as a result.
Other witnesses in the case have said the company was technically insolvent in late 2010 or earlier and that Mainzeal directors breached their obligations somewhere between January and July 2011.
Veteran director Sandy Maier told the court that “despite MLG’s clear inability to repay that debt", the loans to MLG were not impaired in the Mainzeal group accounts.
The background goes back to the 2004-2005 financial year, when Mainzeal lent money to MLG Trading, a Chinese subsidiary of Mainzeal owner Richina. The funds were used to buy a Shanghai leather factory.
Richina boss Richard Yan argues the MLG loan was actually repaying money previously sent to Mainzeal from China to help it complete Mobil on the Park - now Vodafone on the Park - in Wellington.
However, the deal was recorded on Mainzeal’s books as an advance that would be recoverable, and Shipley and the other Mainzeal directors continued to express confidence they would get the money back.
BDO says that by continuing to trade for two years while technically insolvent, the company ended up owing subcontractors up to $75 million that it couldn’t pay. The directors dispute that, saying continuing to trade was the best option for creditors.
The problem for Mainzeal was things started to go wrong in the years after it lent the money. It lost $22 million on the Vector Arena project and got hit with leaky building claims. Profits turned into losses.
At the same time, MLG Trading also got into trouble. By December 2008, MLG had negative equity of almost $45 million, Finny said, and by August 2011, Mainzeal was owed $33 million.
Finny says the complexity and precarious nature of the Chinese foreign exchange regulatory system was well known at the time and directors should have been aware there were risks Mainzeal wouldn’t get its money back.
The challenge posed by the regime was a constant subject of discussion among those working in the China banking and investment field, he said.
"Pretty much everyone I talked to during 2010 to 2013 about actual or potential investments in China or from China would be discussing the risks involved in operating under this regime.”
Once Mainzeal was in financial difficulties, the chances of getting money out of China were even lower, he said.
“The Chinese authorities require a clear justification backed up by a sound business case for these approvals. Generally speaking, I am not sure that the Chinese regulators would have been impressed by applications to transfer funds to an obviously loss-making subsidiary.”
Finny and Shanghai-based witness Lingyun He both argued in court that a deal where some of the loan was paid back by Richina supplying Chinese building materials to Mainzeal was potentially illegal under Chinese law, and should have raised red flags with the directors.
“My alarm would have been even stronger over the proposed Forward Purchase Agreement,” Finny said in his evidence. “Chinese authorities monitor attempts to transfer funds offshore through use of goods exports that are not paid for.
"This, prima facie, is a circumvention of the Chinese foreign control systems and I would be demanding evidence that the practice was both legal and approved by the Chinese authorities.”
Lawyers for Richard Yan argued Chinese building materials supplied to Mainzeal were worth around $10 million. The high quality of the materials made it far less likely that Mainzeal would have further problems with leaky buildings, Yan’s lawyer David Chisholm said.
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