There's nothing new in financial companies failing. Our history is replete with stories of companies that fail. When they do, a variety of reasons may apply. A lack of 'working capital', 'competition', 'over-expansion', 'inordinate overheads', 'fall off in demand for services or products offered' and so on. Whilst the reasons may be many, I have found in my business life that one thing is prevalent in most of these failed ventures. They are all mismanaged!
I once challenged, be it indirectly, the Cassimatises to a discussion on the merits or otherwise of Storm’s “Statement of Advice’ and the financial model that was Cassimatis’ brainchild. I issued this challenge some 12 months after Storm’s demise. Some well meaning individual who had previously worked for Storm, and was now a victim himself, told me that “Manny would “chew me up for breakfast” where financial matters were concerned. With “a nice Chianti to wash it down” perhaps! He certainly chewed the rest of us up with his grand ideas so maybe that person had a point! After all, it takes a special type of skill to lose 1.6 million dollars of someone's money in 15 months.
I think I could probably teach Manny a thing or two about ‘management’ though because the evidence to date indicates that Storm was very poorly managed indeed. Here are just a few deficiencies:
We need look no further than the 'Worrells Report' - Page 83 (See Section ‘Worrells” on this website for this report in full) to confirm Storm inefficencies. I will quote from this report in ‘Italics’ and comment in ‘brown’ as I go.
“15. COMMENTARY ON REASONS FOR FAILURE AND LOSSES
The reason for the failure of Storm as a company is easily ascertained and can be simply stated. Storm's business was one where the majority of income was earned as clients invested fresh funds in the Australian share market through indexed funds, using Storm's geared up investment model. It seems reasonable to assume that clients could only be expected to make such investment decisions when they could be persuaded that the market was free of high levels of volatility and would rise within a relatively short period.”..
The truth of the matter was that Storm was still taking people’s money up until the time the doors were closed. How unfeeling is that?
“Evidently Storm's greatest period of expansion coincided with a period of almost continual growth in the value of the Australian share market. During 2008 values in share markets worldwide including Australia, plummeted. As a consequence retail investors were reluctant to invest fresh funds in the market. This in turn had an almost immediate effect on the "upfront fee" income of Storm, which progressively fell from an average of $4.5 million a month during 2007/08 to $331,000 in December 2008. This was a drop of approximately 93%
The effect of a possible sustained share market downturn on Storm's business was something which the directors of Storm had foreseen, as shown in the following extract from the minutes of a Storm Board of Directors meeting held in October 2007:
(In the minutes it was stated): “We can then perceive that a sustained share market downturn will affect Storm's business. However, Storm's client strategy is appropriate to apply during counter-cyclical periods. Whilst the frequency of a sustained share market downturn is very limited, Storm employees are following methods to reduce risk during those times that will inevitably come, despite the infrequency. Storm retains a minimum of 6 to 12 months' operating expenses in the company reserve accounts to ensure, should income reduce, the operating teams do not require reductions in labour force or other resources. Storm's operational teams are very efficient with their time and ensure there are consistently projects within the wish list to enable a refocus on building new systems during business downturns.”
That is, Storm can quickly go from being in full-on building mode during high activity periods to laying the foundation work in quieter times. Our LVR bands are consistently reducing in good times to ensure in sustained difficult times that clients can appropriately continue to build their investments in those sustained downturns. The balance between these things is carefully monitored by management and has proven over the history of the firm to be a way to maintain a safe and sustainable business during these infrequent times.”
It is evident from these minutes that the directors of Storm were living in cuckoo land. Nothing stated herein was true! I believe the word to use in such cases is ‘delusional’. One wonders now just how long they had been in this state!
Let’s look at some facts:
“The management accounts of Storm show that in the six months to December 2008 the Storm Group lost $12.6 million through trading and expended a further $3.4 million by way of preferred dividends. The preferred dividends represent income share due to the vendors of businesses acquired by Storm and are thus effectively a cost of the business and bring the trading loss to $16 million. Additionally Storm elected to make unsecured advances to clients totalling approximately $2 million, which advances were subsequently lost. These losses, combined with a loss of support from the Storm Group's bankers and inadequate working capital, and in the absence of an expectation of an almost immediate return to profitable trading, mandated the appointment of external administrators.
The failure of Storm was thus a direct result of the overwhelming reduction in upfront fees which was suffered as a consequence of the drop on the value of the share market. Although Storm had foreseen the possibility of such a down turn and had created reserves for just that purpose, it seems that the reserves were, in the circumstances, insufficient.
The losses which clients of Storm incurred were the result of a combination of factors. Although the liquidators are able to identify some of the major factors which contributed to the losses incurred by clients, it is not their role to apportion blame or to prosecute any possible offences. Apportioning blame is the function of a court or other properly constructed tribunal, and the prosecution of any offences which may have occurred is the responsibility of the ASIC…
Almost any investor with an ongoing position in the Australian share market during 2008 stood to lose substantial value as the market dropped during that year. Thus, all investors who failed to liquidate their investments at an early date were assured of incurring losses.
This last paragraph says it all. The market didn’t drop overnight! It was a progressive run-off until the dam finally burst which meant that Storm had plenty of time to save our portfolios. Not only did Storm fail to act in good time, but they and the banks then delayed matters by “humming and harring” for weeks as to what to do! They fiddled whilst our shares burned!
“Given that the market dropped almost continually during the second half of 2008 it is obvious that any delay in liquidating investments would add to the loss accruing. Clients of Storm who had invested using Storm's leveraged investment model and who had insufficient cash resources to meet margin calls, were potentially more exposed than those investors who were not subject to leverage. But that potential would only be realised if prompt action to realise share investments or pay the expected margin calls was not taken.”
I can remember Manny Cassimatis telling us at a meeting in November 2008 that we “must hold on to our margin loans at all costs!” I now realize that he was thinking of himself when he gave this advice rather than the Storm investors.
I say this because by the end of August 2008 Storm’s clients had invested an aggregate amount of $4.862 billion (at the share values then applying) into the various Share Funds sponsored by Storm. Of that amount $1.786 million (36.7%) appears to have been funded by way of margin lending.
“The evidence presented at the public examination suggests that both Storm and CGI were aware that clients’ positions were deteriorating and each sought to take what they individually regarded as appropriate action.”…
No they didn’t! They were both sitting on the fence waiting for the other one to make a move! Meanwhile, we were all “cooking on the barbie.”
“It seems from the evidence provided at the public examination that CGI's view was that CGI was not contractually required to send margin call notices directly to clients.”
I think the courts will decide that CGI was contractually required to send margin calls to clients!
“Rather CG/'s approach was to provide Storm with a series of prompts and spread sheets detailing the position of clients. This was done, it appears, on the basis that Storm as the authorised agent of the client was best placed to advise the client on what action should be taken to regularise the position.”
I don’t remember authorising Storm to act as our agent where banks are concerned? This is going to be an interesting point in law because Storm was not part of any contracts we had with the banks involved.
“CGI may have been fortified in that belief as a result of the involvement which Storm appears to have actually had in assisting many clients to manage their exposure to CGI, and the representations which Storm made on behalf of all clients. It was not until late November 2008 that CGI decided to contact clients directly. “
The key here will be the covert agreements between Storm and the banks involved which dictated these parties’ courses of actions in relationj to margin calls. These secret agreements not only go to the heart of ASIC and Levitt-Robinson’s claims that Storm and the banks were operating UMIS schemes which are illegal, but these secret agreements also alter the prime conditions of the original contracts between the banks and their Storm customers.
“Again, from the evidence presented, it appears that Storm's position was that it expected CGI would send formal margin call notices directly to clients, noting that this had happened in previous years.”
No, it had not! I think you will find that this practise was adopted after these secret agreements were made. No matter! The banks still had a contractual obligation to notify their Storm customers irrespective of whether they notified Storm or not.
“Storm do not believe the evidence suggests that the ongoing series of spread sheets received by Storm amounted to a formal margin call notice for any client or group of clients. Further, the evidence given by Storm's executives was that in their view it was never Storm's role to closely monitor and or manage clients’ positions.”
Here you have a classic example of shifting the blame and both parties are guilty of it. I have no doubt that the banks left it to Storm to decide when clients should be notified. In so doing, the banks did not meet their contractual obligations to their customers, so they have no excuse. Storm, on the other hand, were playing Russian roulette with our money hoping that the share markets would recover, and they would be saved from oblivion. They also relied on the banks to bail them out if the market continued to fall. Procrastination was the order of the day by all concerned, and customers’ assets suffered total melt-down as a result.
“Despite holding those views the evidence appears to be that Storm nevertheless attempted to assist clients both on an individual basis and on an all client basis. The evidence given by the Storm executives was that Storm was, to a degree, frustrated in its attempts to assist as the data provided by CGI was said to be unreliable during critical periods.”
Storm was using inferior software despite paying out many millions of dollars to its software arm, ‘Ignite’, which borders on the ludicrous when you consider the number of portfolios it handled and the dollar value of them. Combine this glaring inadequacy with the imperfect software the banks were using in this regard, and the apparent inertia that was prevalent throughout, and you have a disaster waiting to happen.
“It seems at least possible that both Storm and CGI had never contemplated clients' positions deteriorating in the numbers and to the degree which actually occurred. If this was so it would be understandable that both Storm and CGI would be unprepared to deal with that occurrence.
Spot on! Both Storm and the banks never foresaw when they devised their strategies that they would be placed in such a position. Consequently, they were ill prepared to handle it when it came along.
“It appears that a significant number of Storm's clients may not have been fully appraised, in a timely way, of the ongoing deterioration in the value of their investments, and as a result did not have the opportunity to initiate appropriate action leading to reduced losses.”
Again, this is a telling statement! The Storm/banks’ customers did not have the opportunity to act because they were not appraised of their positions in time. The banks by failing to make margin calls on their customers in regular fashion (within 5 days as opposed to many weeks) violated their customers’ rights and breached their contractual obligations and responsibilities.
To sum up, these losses came about because both Storm and the banks confused one another. Under the terms of their covert agreements provisions were put in place but no one followed through to make sure procedures were being followed. Areas of responsibility were never clearly defined and procedures were ill defined.
Both Storm and the banks worked on the premise that where confusion reigns, money is to be made. They forgot to include themselves in the equation. As a consequence, when confusion reigned in respect of their various roles, they were so confused that they lost all their Storm customers' monies.