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VOLUME SIX
THE MANAGEMENT OF CREDIT: CASE STUDIES

 

 

CHAPTER 14
CASE STUDY IN CREDIT MANAGEMENT: THE REMM GROUP

 

 

 

TABLE OF CONTENTS

 

14.1 REFERENCE INFORMATION
14.1.1 SCOPE OF THE INVESTIGATION

14.2 BACKGROUND TO THE ACCOUNT
14.2.1 THE REMM GROUP
14.2.2 THE BANK'S ASSOCIATION WITH THE REMM GROUP
14.2.3 THE EMERGING ROLE OF THE BANK AS PRINCIPAL FINANCIER FOR THE MYER RUNDLE MALL DEVELOPMENT PROJECT
14.2.3.1 The July 1988 Proposal
14.2.3.2 Developments: July 1988 - September 1989
14.2.3.3 The September 1989 Proposal
14.2.3.4 Developments: September 1989 - March 1990
14.2.3.5 Developments: March 1990 - February 1991 (Post Syndication)
14.2.4 COMPLEXITY OF THE TRANSACTION
14.2.5 RELIANCE UPON EXPERTS
14.2.6 EXTERNAL INFLUENCES ON THE BANK
14.2.7 THE BANK'S PRUDENTIAL GUIDELINES
14.2.8 PROXIMATE CAUSES OF LOSSES TO THE BANK
14.2.9 EXTENT OF LOSSES

14.3 CHRONOLOGY

14.4 COMPLIANCE WITH POLICIES AND PROCEDURES
14.4.1 INITIATION OF THE FACILITY
14.4.2 APPROVAL OF FACILITY
14.4.3 SECURITY
14.4.4 HINDSIGHT OVERVIEW
14.4.5 ADVANCEMENT OF FUNDS
14.4.6 MANAGEMENT OF FACILITY
14.4.7 MANAGEMENT OF NON PERFORMING FACILITY
14.4.8 CREDIT INSPECTION

14.5 OTHER MATTERS IDENTIFIED BY THE INVESTIGATION

14.6 REPORT IN ACCORDANCE WITH TERMS OF APPOINTMENT
14.6.1 TERMS OF APPOINTMENT A
14.6.2 TERM OF APPOINTMENT C
14.6.3 TERM OF APPOINTMENT D

14.7 APPENDICES
A REMM Group Ltd companies involved in the Myer Centre - Top of the Mall - Adelaide Development
B Myer Centre - Top of the Mall - Adelaide Development Structure
C Chronology of Lending Credit Committee and Bank Board Papers
D The Conditions Subject to which the Credit Approval of July 1988 was made by the Board of Directors of the Bank

 

 

 

14.1 REFERENCE INFORMATION

 

The following information on REMM Group Ltd and its wholly owned subsidiaries Pazadore Pty Ltd, Beachmont Pty Ltd and Centrepoint Pty Ltd is set out for reference purposes:

REFERENCE INFORMATION
Account Name . REMM Group Ltd;

. Beachmont Pty Ltd;

. Centrepoint Pty Ltd; and

. Pazadore Finance Pty Ltd.

Directors of REMM Group Ltd at May 1988

(being the date of initial proposal)

. Mr M J Brown;

. Mr D L Innes;

. Mr J Pearson;

. Ms C M Thompson; and

. Mr R K Wright.

   
Industry Sector . Commercial Property Development
Facility Type

(including contingent)

. Commercial bills;

. Fully drawn advance;

. Overdraft;

. Letter of Credit;

. Interest Rate Risk Management Facility; and

. Performance Bond.

Principal Outstanding

at 31 March 1991

. $398.0M

(This is the value of direct facilities approved by the Bank Board. $348.0M thereof had been drawn by 31 March 1991.)

Unrecognised Income

at 31 March 1991

. $11.1M    
Provision for Loss

at 31 March 1991

. $185.0M    
Estimated Loss

at 31 March 1991

. Unknown    

 

14.1.1 SCOPE OF THE INVESTIGATION

This case study concerns the REMM Group and the Bank's involvement with it in connection with the acquisition and development of the Myer Rundle Mall Adelaide complex. The development cost much more than was contemplated by the Bank and REMM Group. The Bank lent much more on the project than was originally intended. The value of the building on completion is less than was envisaged and is much less than the Bank has advanced on the project. REMM Group does not have the capacity to repay the amount which the Bank has expended.

The very substantial increase in the cost of the development and the very substantial diminution in the value of the building on completion occurred by reason of events outside of the control of the Bank. The relevant issues for this Investigation are: whether or not the Bank ought to have foreseen these occurrences and, as a consequence, not have gone into the financial arrangements which it made with REMM Group from time to time, and whether or not the Bank failed to take appropriate measures to minimise its losses.

As my investigation into the matter proceeded, it became obvious that errors occurred in the initiation and approval phases of the loan cycle. This case study concentrates on those phases. Other phases of that cycle and some peripheral matters were also investigated.

 

14.2 BACKGROUND TO THE ACCOUNT

 

14.2.1 THE REMM GROUP

The "REMM Group" is made up of companies which have either interlocking shareholding or substantially common management or both and which are, in effect, controlled by the Board of Directors of REMM Group Ltd. (Appendix A to this Chapter identifies the REMM Group Companies which are relevant to this Investigation).

The activities of the REMM Group began in about 1973 in Queensland where it operated initially as a developer of property. At first, its activities were concerned with development of real estate on the fringe on the central business district of Brisbane and with development in the nature of residential sub-division. As its activities expanded, the REMM Group became involved in the development of large suburban industrial, retail and commercial complexes. This activity extended in time into development in the central business district of Brisbane, culminating in the development, construction and management of the Myer Centre - Brisbane, which was completed in March 1988.

14.2.2 THE BANK'S ASSOCIATION WITH THE REMM GROUP

This case study is essentially concerned with the losses sustained by the Bank in connection with the financing of the redevelopment of the Myer Rundle Mall site at Rundle Mall, Adelaide. The financing of that project was not the first involvement which the Bank had with REMM Group.

The Bank's initial involvement with REMM Group occurred in connection with the Myer Brisbane project. The Bank was a member of a syndicate, lead by Interchase Corporation Limited, which provided finance for the Myer Brisbane redevelopment. The Bank contributed $25.0M to the syndicated finance for that project. In that connection, the Bank did not have dealings directly with REMM Group. The Bank's dealings were with the syndicate leader. Nevertheless, the project resulted in the Bank becoming aware of the operations of REMM Group, and of the Bank having some confidence in the ability of the REMM Group with respect to the redevelopment and construction of a major retail outlet in an Australian capital city. The Bank was repaid the amount which it contributed to the syndicated funding, and the Bank observed that REMM Group was able to complete its project, on time and within budget.

Whilst the Myer Brisbane project was in progress, the Bank became involved with the REMM Group in Adelaide. This involvement began in about June 1987 and concerned the redevelopment of the Centrepoint site (corner Rundle Street and Pulteney Street, Adelaide) which was a preliminary stage to the development of the Myer Rundle Mall site. In June 1987, the Bank provided REMM Group with $43.14M being 100 per cent of the funding required for the development and construction of the Centrepoint Adelaide complex. The details of that funding arrangement are unimportant save to observe that one aspect of it was that the State Government Insurance Commission was involved and, as part of the Security provided for the Bank, State Government Insurance Commission provided a Put Option requiring it, at the option of the Bank, to purchase the Centrepoint Adelaide complex, on completion, for a consideration sufficient to refund to the Bank all amounts advanced by the Bank to REMM Group, together with all outstanding fees and charges.

Accordingly, by the time when the Bank came to consider a request that it should participate in the funding of the development of the Myer Rundle Mall site, the Bank had had a significant experience with REMM, and its management and those arrangements and dealings had been entirely satisfactory. It is also noteworthy that the dealings which the Bank had had with REMM concerned the development and construction of substantial retail outlets including an outlet of that kind within the city of Adelaide.

The Bank has submitted to me, and I have no reason to believe to the contrary, that it had received "... no suggestion from other financiers that REMM did not have a good credit record ... ." () Accordingly, the background with which the Bank came to assess its involvement in connection with the REMM Group's redevelopment of the Myer Rundle Mall site included up to date knowledge of the activities of the REMM Group in connection with the development of another substantial retail complex in the city of Adelaide, and, as well, the fact that the Bank was already committed to the REMM Group to the extent of $43.14M which risk was very substantially reduced by reason of the Put Option. Moreover, by the time the Bank came to consider its involvement with the development of the Myer Rundle Mall site, REMM had completed the Myer Brisbane site, to considerable acclaim, on time, and within budget. Accordingly, when the Bank came to consider its involvement as a financier to the REMM Group in connection with the Myer Rundle Mall site, the Bank had every reason to believe that the REMM Group was a competent organisation fit to engage in a project such as the Myer Rundle Mall redevelopment project.

In the course of this Investigation, I was referred to a file note prepared by Mr F T Wilsen, Administration Finance Director, Ayers Finniss Ltd ("Ayers Finniss"), dated 1 September 1987, copies of which were forwarded to Mr T M Clark, Managing Director of the Bank, and to others. No useful purpose would be served by repeating the content of that file note. Suffice it to say that the author advised the recipients of the note that he had "... grave reservations" about the Myer Development Project having regard to certain factors associated with the state of the retail market, the price achieved on the sale of the John Martins building in Rundle Mall, and to other factors. The author suggested "... recommend we proceed warily on this one, if at all and liaise closely with Des Masters of SBSA ... ." ()

It is clear that the memorandum written by Mr Wilsen, although prophetic as later events turned out to prove, was not prepared after any detailed analysis of any particular financing proposal. It was a general cautionary statement, issued after some discussion which Mr Wilsen had had with Mr Brown, Managing Director of REMM Group, at a cocktail party.() The memorandum was circulated to officers of the Bank (particularly Mr D C Masters and Mr Clark) "as a matter of courtesy". () In my opinion, it would not be appropriate to attribute to this document any greater weight than it could have had at the time when it was written. It was not a considered document. It did not relate to any specific proposal. It was a general, cautionary note. Moreover, it was issued in September 1987, and when the Bank came to consider the very substantial transaction into which it was going to enter with the REMM Group, in July 1988, the experience of the Bank with REMM Group, and the reputation of REMM Group generally, had been enhanced by the continued performance of REMM Group in connection with the Centrepoint project and, especially by the successful completion of the Myer Brisbane project, ahead of schedule and within budget.

14.2.3 THE EMERGING ROLE OF THE BANK AS PRINCIPAL FINANCIER FOR THE MYER RUNDLE MALL DEVELOPMENT PROJECT

An early step in the development of the Myer Rundle Mall project was that a REMM Group company acquired the site for the development. It did this largely with borrowed capital. The Bank was not involved in the financing of this early stage of the project.

In early 1988, ANZ Capital Markets Corporation Ltd (ANZCAP) attempted to develop, and put in place, financial arrangements for the development of the Myer Rundle Mall site. ANZCAP approached the Bank in order to ascertain whether the Bank would provide $40.0M by way of Letter of Credit as part of a stand-by facility forming part of the back-up finance to the development of the project. ANZCAP also sought to put in place syndicated financing to the extent of $430.0M for the construction of the project, in due course, with ANZCAP as the lead manager of the syndicate.

In May 1988, the Bank, through its Lending Credit Committee and the Board, considered and approved a provision of a Letter of Credit of $40.0M as part of the stand-by facility for the purpose of providing the back-up finance to the development of the project. As a result of changes to taxation legislation, however, announced in the statement of the Federal Treasurer in May 1988, ANZCAP withdrew from the project altogether.

In order to assess the ANZCAP Proposal, the Bank had gathered together a substantial body of information about the REMM Group and the Myer Rundle Mall Project. Although it had been gathered for the purpose of assessing a limited role which the Bank would have had under the ANZCAP Proposal, that information was obviously relevant and useful to the Bank if it were to be involved in a more substantial way.

14.2.3.1 The July 1988 Proposal

In July 1988, it was suggested that the Bank assume the role of the primary financier. I will hereafter refer to the detailed financial proposal prepared at this time as "the July 1988 Proposal." ()

The July 1988 Proposal contained two stages. Stage 1 was a transitional step towards Stage 2 which would supersede and replace Stage 1.

In essence, Stage 1 was designed to provide finance of up to $120.0M to pay out the existing mortgage on the development site, and to provide finance for the development to get underway. Stage 2 was designed to pay out the Stage 1 financiers, and to provide finance for the construction phase of the project (which was envisaged to be of two years' duration) and for the first year of operation of the new complex. Stage 2 envisaged that the Stage 2 financing debt would thereafter be discharged, either upon sale of the complex, or through refinancing. Although the Stage 2 financing involved facilities of up to $490.0M, it was coupled with certain guarantees, the effect of which was to commit the Bank to financing the completion of the project whatever the cost.

Stage 1 financing had two components, namely:

(a) a credit facility of $120.0M; and

(b) an underwriting commitment to provide Stage 2 financing to the extent of an additional $330.0M. The underwriting component was "underpinned" by the State Government Insurance Commission to the extent of $200.0M, for which the State Government Insurance Commission was to be paid the sum of $0.02M.

The essentials of the Stage 2 financing were:

(a) The first element of the Stage 2 financing was a credit facility of up to $450.0M, which was divided into two blocks, namely,

(i) a Medium Term Debt Facility of $360.0M; and

(ii) a Construction Debt Facility of $90.0M.

All of this facility was to be syndicated but the syndicate members in block (i) differed from those in block (ii) and the terms of the syndication, both as between syndicate members, and as between the syndicate and borrower, were not necessarily the same, and were likely to be different.

The Bank was to participate in the medium term debt facility to the extent of $120.0M. The Bank did not propose to provide any of the Construction Debt facility finance.

The Bank was to have the role as the Manager of the syndicated financing arrangements.

(b) The second element of Stage 2 financing was a Construction Cost Overrun facility of $40.0M to be provided by way of Letter of Credit. The purpose of this was to provide finance in the event that the cost of construction exceeded the anticipated cost. The Bank was to provide the whole of the Construction Cost Overrun facility of $40.0M.

(c) The third element of Stage 2 financing was that the Bank and the State Government Insurance Commission were jointly to provide (with the Bank providing 1/3 and the State Government Insurance Commission 2/3) a Put Option of $125.0M for the completed development, together with assumption of the $360.0M Medium Term Debt Facility.

The purpose of the Put Option was to enable the Bank and State Government Insurance Commission to pay out the Construction Debt Facility ($90.0M) and the Construction Cost Overrun Facility ($40.0M) at the time of exercise of the option (September 1991 or 1 year after practical completion of the project whichever first occurred) and thereafter to assume liability for repayment of the Medium Term Debt Facility ($360.0M) whereupon the Bank and State Government Insurance Commission would acquire ownership of the building. The effective price which State Government Insurance Commission and the Bank could be required to pay for the building under the Put Option was $485.0M.() The terms of the Put Option were never reduced to writing but the concept of it was, as I understand it, such as to require REMM Group to permit the Bank/State Government Insurance Commission to pay out the construction Debt Facility, assume liability for the Medium Term Debt, and, for that consideration, to acquire the building and to hold it in their own right until its value exceeded the actual construction cost and all interest and charges on it, whereupon it would be sold, or refinanced.

The timeframe envisaged by the July 1988 Proposal was that Stage 1 would take place immediately upon approval and would be superseded by Stage 2. The Proposal stated that the documentation and syndication (for Stage 2) "... is expected to take about 8 weeks ... ." () It also stated that Stage 2 would replace Stage 1 "within 3 months." ()

The timeframe envisaged by this Proposal for Stage 2 was not expressed in precise terms, it being acknowledged that this depended upon a number of variable factors such as delay in completion of the Project; whether or not a purchaser could be found, and, if so, when, after completion of the works; and other matters. The timeframe stated in the "Disaster Scenario" in the July 1988 Proposal envisaged that the financiers might still be involved in the period 1994-95.() Whilst this was the "Disaster Scenario" the Proposal generally postulated a construction period of 18-24 months, and that financing would be completed within 5 years with a provision for early repayment.()

The July 1988 Proposal as it was presented to the Lending Credit Committee and the Bank Board envisaged that within two to three months of approval, Stage 2 would be in place and, under those arrangements, the Bank's total lending obligations to REMM Group would be limited to $166.67M.()

Another important feature of the July 1988 Proposal was that it involved a direct relationship between the Bank, as head financier, and Myer Stores Ltd as the principal lessee of the completed complex. The circumstances in which this arose are that when REMM Group acquired the site, it did so subject to the rights of Myer Stores Ltd which occupied a major portion of the development site, pursuant to a lease. In order to procure Myers Stores Ltd to vacate the site and move elsewhere pending development and in order to secure a long term lease of the premises after redevelopment by REMM Group to Myer Stores Ltd, two agreements, known respectively as the "Rundle Mall Performance Guarantee" and "Surrender Compensation Agreement", were required by Myer Stores Ltd.

The parties to the Rundle Mall Performance Guarantee were the Bank, Myer Stores Ltd, and two REMM Group companies. The effect of the agreement, as between the Bank and Myer Stores Ltd, was, in broad terms, that, if REMM Group failed to complete the project, then its obligations to do so would be undertaken by the Bank. It is stating the obvious, but necessary to observe that this meant, in effect, that if the estimate of cost made by REMM Group was wholly inadequate, and if the finance arrangements provided insufficient capital, then the Bank would have to provide the necessary additional funds to complete the project in the event that REMM Group could not do so.

The Surrender Compensation Agreement was an agreement to which only Myer Stores Ltd and REMMADELL Pty Ltd (a REMM Group Company) were parties. Under the terms of this agreement, and as an inducement for Myer Stores Ltd to relocate, REMM Group underwrote the profits of Myer Stores Ltd during the financial years 1988-89 and 1989-90 to the limited extent of $27.0M. (This was designed to ensure that Myer would not suffer loss of profitability arising from its relocation to Centrepoint and Miller Anderson sites whilst the Rundle Mall site was being redeveloped). The Bank, as the guarantor of REMM Group pursuant to the Rundle Mall Performance Guarantee, became liable as guarantor of REMM Group in the event that REMM Group failed to compensate Myer for the loss of profits, as provided by the Surrender Compensation Agreement.

The July 1988 Proposal suggested an "on completion" value of the developed Myer Complex, of $553.1M.() The July 1988 Proposal document recognised that construction costs (including interest and financial charges incurred during construction) could not be estimated with precision, but were considered to be $452.9M, including $18.8M for "contingency" items in the design and construction phase of the works. Nevertheless, the July 1988 Proposal recognised that the cost of construction might well exceed $450.0M, but that "adequate comfort" would be provided by the $40.0M Letter of Credit (the Construction Cost Overrun Facility).() In short, the development cost to the stage of completion was expected to be less than $490.0M and the value of the complex on completion was expected to be $550.0M.

A final element in the July 1988 Proposal was that it was based upon deferral of South Australian Government charges until exercise or expiry of the Put Option.

The precise details of the July 1988 Proposal, and its consideration by the Lending Credit Committee and the Board of Directors, are discussed in more detail below at Section 14.4.1 and 14.4.2. It will suffice, at this point to say that the Proposal was recommended for approval, on 27 July 1988, by the Lending Credit Committee, subject to certain conditions which need not be described at this point. On the following day, the July 1988 Proposal was approved, subject to conditions, by the Board of Directors.() The conditions on which approval was granted by the Board are fully set out in Appendix D.

14.2.3.2 Developments: July 1988 - September 1989

After the conditional approval to the transaction given by the Board of Directors on 28 July 1988, the management of the matter reverted to Mr P F Mullins, Chief Manager, Corporate Banking - the same officer who had been responsible for putting the Proposal together.

He obtained an up to date valuation of the site and of the developed site, from Colliers International Property Consultants, as required by the Conditional Approval of the Board.

Mr Mullins did not obtain State Government consent to a deferral of statutory charges, as had been envisaged by the conditional approval of the Board. Instead, he negotiated with South Australian Government Financing Authority, and obtained from South Australian Government Financing Authority, its approval to contribute a further $10.0M to the Letter of Credit which was to constitute the Construction Cost Overrun Facility. Having arranged for this to take place, Mr Mullins then sought approval for this amendment to the Proposal, from the Lending Credit Committee. That Committee considered the amendment on 23 August 1988, and gave its approval. The net effect of this was to increase the Construction Cost Overrun Facility from $40.0M to $50.0M, with the additional funds being provided by South Australian Government Financing Authority at the expense of REMM Group.

Despite the fact that the conditional approval of the Board had required, as a condition precedent to the advancement of funds, documentation, (including the "Put Option") to be to the satisfaction of the Bank's legal advisers, the terms of the Put Option were only agreed in very broad outline, and documented by way of an exchange of letters.

Despite the fact that the risk underpin involved $200.0M risk to the Bank it was not documented except by exchange of letters and no formal documentation in connection with it was ever prepared.()

Most importantly, and notwithstanding that the Board's approval had been conditional on it, Mr Mullins did not obtain confirmation "... as to the accuracy of the project costings and construction timetable based on final approved plans, to be provided by WT Partnership"().

Syndication of the project, as envisaged by Stage 2 of the July 1988 Proposal, did not occur, nor were any steps taken immediately to put it in place other than the dispatch, on 12 August 1988, of an indicative letter setting out the terms and conditions of the proposed syndicated facilities.

Despite these shortcomings in the immediate implementation of the Board's decision, Mr Mullins and another officer of the Bank executed (under Power of Attorney) the Rundle Mall Performance Guarantee. This was done on 29 August 1988. The importance of this step should be recognised. Its effect was that even though the Bank was limited in its obligation to REMM Group, to the extent of financing the project up to $500.0M, its obligations to Myer Stores Limited were not limited to that figure, and the terms of the guarantee agreement effectively committed the Bank to Myer Stores Limited, in a way which was legally enforceable, to provide sufficient finance for the project to be completed, notwithstanding that the cost might exceed $500.0M and might well do so to a very substantial extent.

The enormity of the risk which the Bank took, by signing the Rundle Mall Performance Guarantee should be appreciated. If the cost of the development "blew out", the Bank was liable to Myer Stores Limited to make the additional funds available to complete it. If the value of the development project was substantially less than expected the Bank would suffer loss if it were forced to sell it. The "Disaster Scenario", stated in the July 1988 Proposal, envisaged that the Bank might hold the asset until "... the centre's value equated to [sic] the outstanding debt and it could be sold".() What the disaster scenario did not envisage was that a combination of factors might occur. In particular, it failed to recognise that the cost overruns might be greatly in excess of the amount estimated, and that this might coincide with a diminution in the rental income anticipated from use of premises after completion. If this combination of events occurred, the rental income might be insufficient to meet the financing requirement of the debt and consequently the debt would simply grow bigger and bigger. Moreover a diminution in rental income could be expected adversely to affect the valuation of the building and, in these circumstances, if it were to be sold, it was likely to realise an amount significantly less than the expected valuation.

With the Stage 1 funding in place and the signing of the Rundle Mall Performance Guarantee, it was important to all parties (ie REMM Group, the Bank and Myer Stores Limited) that the project proceed quickly. If it did not, then the holding charges associated with maintaining the Stage 1 funding would become a significant additional expense to the project, eating into the safety margins contained in it for other adverse eventualities. Regrettably there was a substantial delay in commencement of the works on site. I have not enquired into the reasons for these delays, except to ascertain that they were matters over which the Bank had no control or influence.() Whilst the works on site were delayed, the project was otherwise proceeding and requiring funds. Almost immediately after the Board approved the funding package, a very substantial draw down occurred in order for REMM Group to discharge a mortgage into which it had entered in order to acquire the site. More and more funds were required as the planning and development of the project proceeded.

By late November 1988, $111.2M had been advanced by the Bank pursuant to the Bridging Finance Facility contained in Stage 1 of the July 1988 Proposal. Meanwhile, syndication of the project had not taken place, despite earlier expectations and predictions, and the situation quickly developed whereby, if the project was not to be further delayed (and thus rendered more costly), it was necessary that further funds be advanced. Accordingly, Mr Mullins sought the approval of the Lending Credit Committee, and subsequently the Board of Directors, for an increase in the Bridging Finance, both as to its duration and as to its extent. In the paper which Mr Mullins presented to the Board of Directors on 24 November 1988, he sought approval for an additional $30.0M to be advanced by way of Bridging Finance until 28 February 1989. In that paper, Mr Mullins wrote:

"Because of the uncertainties regarding the project's commencement date ... and the need for some refinements to the financing/ownership structure, we have delayed our approach to the market for syndication of the project finance facilities. We would now expect to conclude the syndication around middle/late January. We hold expressions of interest from 19 Banks/Institutions and do not expect any problem with sell down." ()

The Lending Credit Committee considered the matter at its meeting on 22 November 1988 and recommended that the additional $30.0M be advanced. The matter was then considered and approved by the Board of Directors at its meeting on 24 November 1988. The Bridging Finance facility was, at this time, increased to $150.0M.

Further draw down of funds then took place. By late February 1989, however, syndication had still not occurred, and the need for further finance arose for a second time. There was really no option for the Board but to approve further bridging finance. Its obligations to Myer Stores Limited under the Rundle Mall Performance Guarantee were such that it simply had to see the project through to completion.

Accordingly, on 23 February 1989, the Board approved a $20.0M further extension in the Bridging Finance Facility until 30 April 1989. The limit of the Bridging Finance was then set at $170.0M.

By late April 1989, syndication had still not been achieved. A new source of delays had occurred on the project, and, as a consequence, the project had acquired a questionable reputation in financial markets. The Bank was in no position to take over the project, and it had a commitment to Myer Stores Limited under the terms of the Rundle Mall Performance Guarantee that the project be completed.

Accordingly, the Bank had no practicable alternative but to continue Bridging Finance whilst it investigated means to remedy the situation.

The paper which Mr Mullins submitted to the meeting of the Bank Board on 27 April 1989 informed the Board of the difficulties which had occurred on site, and of the fact that syndication had not been achieved. It also informed the Board that:

"As a result of the lack of acceptable progress to date on the project and considerable market speculation we have commissioned an independent review to be carried out by a Mr David Chandler who was previously Deputy Managing Director of Concrete Construction Limited and was Project Director of the Canberra Parliament House project for four years.

Mr Chandler is reviewing all aspects of the sub contract arrangements potential for cost overruns, areas of risk for State Bank and documentation matters. He will advise us on any areas in which we need to strengthen our position ... At the same time, as a result of programme changes, increased demolition costs and interest rate outlook, we will be fully reviewing the overall project costing." ()

Not surprisingly the Bank Board agreed to an extension of the Bridging Finance facility until 30 June 1989.

In June 1989, a situation was reached which was similar to that which had occurred in November 1988 and February 1989 ie that the limit of Bridging Finance was insufficient to fund continuation of the project. Accordingly, for the third time, the Bank had to either increase the limit of Bridging Finance or stop providing funds thereby causing a substantial delay in the project and a consequent increase in its cost.

The Board of Directors decided, at its meeting on 23 June 1989, to increase the Bridging Finance Facility to $190.0M, and to extend the term of that financing until 31 July 1989. The papers submitted for consideration of the Board of Directors, on 22 June 1989, contained significant statements of fact, which should be appreciated in order to understand the later decision making of the Board. Those facts include:

(a) That the project was now 3-4 months behind schedule.

(b) That the contractual arrangements for the building structure had still not been finalised as between REMM Group and the contractor which it was proposing to engage.

(c) That the project cost estimate made by the REMM Group was now $490.0M -$510.0M and that with holding costs up to the date of the exercise of the Put Option (September 1991) the debt likely to have accrued at that stage would be of the level $550.0M - $580.0M.

(d) That REMM was unable to finance additional costs overruns from its own resources.()

In mid July 1989, the management of the Bank realised that the original funding arrangements could no longer work. The reasons which lead to this realisation are complex and unnecessary for me to relate in full. Suffice it to say that the construction and holding costs were now confidently expected to exceed the effective price of the Put Option, and to do so by a substantial sum. It was also realised that syndication of the risk could not occur until such time as a total renegotiation of the financing arrangements with REMM had taken place, and were properly documented.()

By the last week of July 1989, the situation was that $176.5M had been advanced under the Bridging Finance Facility. Management of the Bank had realised that the original funding proposal, which had incorporated the Put Option for an effective price of $485.0M, was no longer viable, and that the whole funding arrangements would need to be renegotiated and documented. The project costs to that date were very close to the existing limits of funding then approved by the Board, and the project was at a stage where it was likely to require substantial further and immediate funding. As REMM Group could not provide the additional funds, the Bank would either have to provide them in order to enable REMM Group to continue, or, alternatively, embark upon the hazardous course of becoming a mortgagee in possession of a partially completed major building site. Accordingly, management presented to the Lending Credit Committee a proposal, to increase the Bridging Finance Facility up to $250.0M until 31 October 1989. That committee approved of that Proposal which was then submitted to the Board of Directors on 27 July 1989. The papers submitted to the Bank Board for consideration, at its July 1989 meeting considered not only the increase in Bridging Finance which was required immediately in order for the project to proceed, but as well the general options which were open to the Bank in order to reduce its exposure and risk in connection with the project.

Those options included:

"A. Default REMM and attempt to take control of the development.

B. Insist that REMM undertake a joint venture with a local builder to help industrial relations.

C. Continue to support REMM and provide funding according to revised projected costs." ()

It is not appropriate at this stage in this Report to describe the factors which were considered by the Board at the meeting of 27 July 1989. It will suffice for present purposes to note that Option C was Management's preferred option and was supported by Mr D R Chandler. The Board approved the extension in Bridging Finance to $250.0M until 31 October 1989, and determined to adopt Option C.

The history of Bridging Finance to this point, shown in tabular form is as follows:

Date of
Approval

Bridging
Term

$M Facility
Limit

27.07.88

(unspecified)

120.0

24.11.88

28.02.89

150.0

23.02.89

30.04.89

170.0

27.04.89

31.07.89

170.0

22.06.89

31.07.89

190.0

27.07.89

31.10.89

250.0

The decision of the Board, in July 1989, to provide further Bridging Finance was followed by negotiations between REMM Group and the management of the Bank, with a view to putting in place a revised funding structure. In these negotiations, the Bank management, assisted by Mr Chandler, sought to change the nature of the relationship between the Bank and REMM Group so that, in effect, the Project became a joint venture between REMM Group and the Bank. In the negotiations, the Bank management undertook to provide the additional funds required to complete the project, but, in return, sought greater control over the progress and cost of works.

By late September 1989, the negotiations between the Bank's management and REMM Group had reached the stage where a formal proposal was put to the Bank Board.

14.2.3.3 The September 1989 Proposal

The Proposal which was submitted to the Board of Directors of the Bank, at its meeting on 28 September 1989, was contained in a paper dated 21 September 1989, written by Mr Mullins ("the September 1989 Proposal"). It presented a completely new funding concept and Proposal to the Board as a means by which the Bank could acquire greater control over the cost and progress of the project, and as a means of facilitating syndication and, thus, a reduction in the Bank's exposure to risk on the project.

The general concept presented by the September 1989 Proposal was as follows:

"It is proposed that the project now proceed on a "joint venture" basis with a variable equity/profit sharing arrangement between SBSA and REMM. The final sharing is to be determined by REMM's performance with regard to completion time, development costs and project value.

The concept underlying the proposed structure is for REMM to be provided with sufficient funds and a further 2 1/2 years in which to complete development and sell the project, introduce additional equity or refinance the project. Should REMM fail to achieve any of the above prior to 31 March 1992, the Bank will have the right to exercise a "Call" option giving it total ownership of the project, subject to the level of debt then outstanding by Pazadore." ()

The financing component of the September 1989 Proposal was fundamentally different from the July 1988 Proposal, both in amount and in structure. Whereas the July 1988 Proposal had envisaged, having regard to the cost of construction, a debt, one year after completion of the project of approximately $450.0M, the September 1989 Proposal envisaged that that debt would be $575.0M.

The funding package, presented by the September 1989 Proposal, was as follows:

"... A first ranking syndicated facility of $360M to be arranged/lead managed by SBSA without any SBSA participation, and second ranking facilities totalling $220M to be provided by SBSA to Pazadore - REMM. These facilities will be sufficient to complete development based on our March 1991 completion date/budget and to cover interest servicing shortfalls up until March 1992 ..." ()

The September 1989 Proposal explained that the purpose of the revised package was to enable repayment of the Bank's Bridging Finance, immediately upon syndication, and at the same time, to provide sufficient funds for the project to be completed, and interest to be capitalised until 31 March 1992.()

The security arrangements contemplated by the September 1989 Proposal were that the syndicated facility of $360.0M would have a first ranking charge over the development, and the facility provided by the Bank would be second ranking over the security of the development.()

The timeframe envisaged by the September 1989 Proposal was that syndication would take place on the execution of formal documents on 14 November 1989. Although the document does not say so expressly, it implies payment out, at about that time, of the Bridging Finance provided by the Bank and thereafter drawdowns provided by the syndicate or the Bank from time to time in order for the project to proceed to completion. It envisaged that the project would be completed in the period September 1990 to March 1991.() The concept of the September 1989 Proposal envisaged that, by 31 March 1992, REMM Group would either have refinanced the project or introduced additional equity into it, or alternatively, have sold it. If these things had not occurred by that date, then the Bank would have a Call Option permitting it to acquire total ownership on discharge of the debt to REMM Group on the project as secured in the arrangements between the Bank and REMM Group.

The September 1989 Proposal stated that the valuation of the project on completion, at September 1990, made by Colliers International Property Consultants, was $557.0M. The Proposal also presented a range of estimates of rental income from the property in the years after completion. It is unnecessary at this stage to present the details of those estimates. Suffice it to say that the advice of Colliers International Property Consultants with respect to rental income was accepted, and, for the purpose of calculating a "pessimistic scenario", was discounted by 10 per cent. It is important, however, to realise that the basic Colliers International Property Consultants assumption was that rental income would continue to increase. The pessimistic scenario presented in the September 1989 Proposal was that there would be an overall rental income growth of about 9 per cent per annum compounding.() The conclusion expressed in the September 1989 Proposal was optimistic. It was:

"As mentioned previously we are confident that, with our consultant's assistance, all of the significant risks associated with this project have been addressed and appropriate measures to manage these risks have been put in place.

The finance structure proposed herein provides us with considerable flexibility to deal with the project in the future, while at the same time achieving a commercial return for the Bank commensurate with the risk it has committed to." ()

This Proposal was considered by the Lending Credit Committee, on 21 September 1989, and recommended for approval. It was then considered by the Board of Directors of the Bank, on 28 September 1989, and approved.()

14.2.3.4 Developments: September 1989 - March 1990

After approval by the Board of Directors of the Bank to the September 1989 Proposal, Management of the Bank then sought to implement it, and, in particular, to arrange for syndication of the first ranking facility of $360.0M. The target date for this to be achieved was 14 November 1989.

By mid November 1989, the Bank had achieved commitment from other institutions only to the extent of $83.0M and Management reported to the Lending Credit Committee on 23 October 1989 that an extension of time for syndication was necessary, particularly in order to accommodate Japanese participants who required a longer time in which to evaluate the Proposal, and to consider their participation in it. The Board of Directors of the Bank was advised of this delay in a paper, dated 20 October 1989, presented by Mr Mullins to the meeting of the Board on 26 October 1989.

By mid November 1989, the funding requirements of the Project were dangerously close to the level of Bridging Finance. The situation which had occurred in connection with the July 1988 Proposal was repeating itself, ie Bridging Finance was insufficient, more finance was required, lest the project be delayed and thus become more expensive, and syndication was still not in place.

On 17 November 1989, management of the Bank sought approval from the Lending Credit Committee to extend the Bridging Finance facility from $250.0M to $270.0M until 22 December 1989. The paper which was presented by Management to the Lending Credit Committee suggested that syndication would occur in mid December 1989.() This recommendation was endorsed by the Lending Credit Committee, and recommended by it to the Bank Board. That recommendation was considered by the Board at its meeting on 23 November 1989, when the Board approved the extension of the Bridging Finance, as requested.

Throughout the months of November and early December 1989, syndication proved harder to achieve than Management had expected. By mid December 1989, the position was again reached where the commitment to syndication by other banks was well short of the targeted level, and it was necessary for Bridging Finance to be extended yet again. Accordingly, on 15 December 1989, management of the Bank asked the Lending Credit Committee to extend the Bridging Finance facility limit from $270.0M to $290.0M until 30 January 1990. The Lending Credit Committee approved this extension, and recommended it to the Board. The matter was considered by the Board at its meeting on 21 December 1989, when it accepted the recommendation of the Lending Credit Committee, and approved the extension.

By January 1990, Management had received commitment totalling $290.0M towards the required $360.0M first ranking facility. Rather than to await further commitment by other banks, management of the Bank sought approval from the Lending Credit Committee and the Board of Directors of the Bank, immediately to effect syndication with those banks which had already made a commitment and for the Bank itself to participate in the first ranking syndicate by a contribution of $70.0M. It was further proposed that the Bank's participation in the first ranking syndicate would later be sold down to one of the interested banks which had not, to that time, agreed to participate in the syndicate. This Proposal represented a significant variation to the September 1989 Proposal. The January 1990 Proposal increased the Bank's direct exposure to REMM Group by a further $70.0M.

Another feature of the Management Proposal of January 1990 was that it sought, yet again, an increase in Bridging Finance - this time from $290.0M to $300.0M and until 28 February 1990, in order that the project could proceed while syndication was effected.

The Lending Credit Committee of the Bank considered and approved the January 1990 Proposal, and recommended it to the Board. The Proposal was then considered by the Board at its meeting on 25 January 1990, at which the Board approved the transaction.

Final documentation of the arrangements between the members of the first ranking syndicate and the Bank (the Interbank Agreement) was not prepared until late January 1990. The terms of that arrangement need not be related in detail in this Report save to observe that the Bank undertook obligations to the syndicate members which, may well have caused an expectation that the other Banks would be repaid on or before 31 March 1992 in the event that they did not wish to continue financing the project. The terms of the Interbank Agreement were communicated to the Board, along with a summary of the new arrangements as between the Bank and REMM Group, as annexures to a report dated 9 February 1990 prepared by Mr Mullins. That annexure stated that the obligations under the Interbank Agreement included the following:

"If by 31 March 1992:

a. Equity of at least $200M has not been injected into the Myer Centre Unit Trust, or

b. Sale of the Myer Centre and hence repayment of the syndicate has not occurred, then SBSA will:

a. Move to total ownership of the Myer Centre Project by exercising rights under its Call Option to acquire total control/ownership of the Myer Centre Unit Trust (for nominal consideration) or

b. Procure that those syndicate members not wishing to continue to fund be repaid." ()

The report of Mr Mullins of 9 February 1990, which gave details of the Interbank Agreement, and of the new contractual arrangements between the Bank and REMM Group, was received by the Board and "noted" at the Board meeting which took place on 22 February 1990. The report which the Board received also informed the Board that documentation for the Interbank arrangements and syndication would be executed on 26 and 27 February 1990, and that drawdown from which the Bridging Finance provided by the Bank would be repaid was set for 9 March 1990.

By 1 March 1990, drawings under the Bridging Finance facility had reached $289.2M. Further delays in documentation and execution of the same for syndication had occurred. Accordingly, Mr Mullins, in his capacity as Chief Manager, Corporate Banking "... approved an extension of 15 days to 15 March 1990 to enable settlement to proceed." ()

By mid March 1990, syndication documents had still not been executed. Mr Mullins prepared a report to the Board in which he advised:

"First drawdown under the syndicated facility is scheduled for 28 March, 1990 at which time SBSA's overall exposure will reduce to approximately $180M. As a result of the above delays the existing Bridging Facility has been extended to 28 March, 1990 in order to coincide with the revised first drawdown under the syndicated facility. It may also be necessary to process 1 further drawdown under the Bridging Facility, but this will not proceed until syndicated documentation has been executed.

Total commitments (subject to documentation) currently stand at $290M with $70M yet to be syndicated. In view of the revised timetable, SBSA will initially take up this participation in (the first ranking syndicate)." ()

Execution of the syndication documents finally took place on 20 March 1990. The syndication which thus was brought into existence was different from that envisaged by the September 1989 Proposal. Whilst the "joint venture" concept between the Bank and REMM was maintained, thus giving the Bank substantial control in the making of decisions likely to effect the progress and cost of the project, the Bank had undertaken an additional commitment of $70.0M as a participant in the first tier finance. Whilst the overall finance that was to be provided to REMM Group remained the same as that envisaged in the September 1989 Proposal, the Bank was now providing a total of $290.0M. But it should not be thought that this was the limit of the Bank's commitment. It was still committed in a limitless amount to Myer Stores Ltd pursuant to the terms of the Rundle Mall Performance Guarantee and, through the Interbank Agreement it may have created an expectation in other first ranking syndicate members that they would be paid out, if by 31 March 1992, certain events had not taken place.

14.2.3.5 Developments: March 1990 - February 1991 (Post Syndication)

Notwithstanding execution of the Interbank Agreement, drawdown on the syndicated finance facility did not occur immediately. Substantial difficulties between REMM Group and one of its major contractors had caused very substantial disruption to work on-site. Moreover, the project was experiencing industrial disruption. Whilst these events were occurring, and with the benefit of the syndicated financing documents being in place, it was thought advisable not to draw down on the syndicated financing but, in lieu, to extend the Bridging Finance provided by the Bank, both as to amount and duration. Thus, the Bridging Finance was drawn down to $309.3M by mid April 1990, at which time Management requested the Lending Credit Committee to approve, and to recommend to the Board an increase in the Bridging Finance facility from $300.0M to $335.0M and to extend its term to 31 May 1990. The Lending Credit Committee considered that matter on 19 April 1990, and recommended the extension to the Board. The matter was then considered by the Board of Directors at its meeting on 26 April 1990. The Board approved the extension of the Bridging Financing facility as sought by Management and recommended by the Lending Credit Committee.

The reader of this Report should bear in mind the magnitude of the difficulties being experienced by REMM Group in the progress of works at this stage. A series of bans and limitations had been imposed by certain workers on site in the month of March. REMM Group obtained an order from the Industrial Commission of South Australia requiring members of the Australian Building and Construction Workers' Federation not to impose or continue any ban, limitation, or restriction, on the performance of work on the site. Nevertheless, difficulties were then experienced with the orderly resumption of work. At the same time, a major dispute had arisen in connection with the performance of work by the principal sub-contractor on site, ALLCO Newsteel Pty Ltd ("ALLCO Newsteel"). In order to improve its position, REMM Group threatened to call up certain performance guarantees which it had obtained from ALLCO Newsteel, but this caused ALLCO Newsteel then to seek injunctions restraining REMM from doing so. REMM then withheld payments to ALLCO Newsteel, but ALLCO Newsteel responded by notifying its sub-contractors that it would not meet their claims until its dispute with REMM Group had been resolved. Eventually, REMM Group decided to terminate ALLCO Newsteel's sub-contract, and to take over performance of the sub-contract works itself. A substantial delay occurred in the progress of works, with the result that REMM revised its estimated completion date from October 1990 to December 1990.()

By 31 May 1990, the Bridging Financing facility had been drawn on to the extent of $334.0M. The limit of that facility was $335.0M and it was due to expire on 31 May 1990. Mr Mullins again approved an extension of the expiry date for the Bridging Finance facility. Eventually, on 18 June 1990, the first syndication drawdown occurred.

The only other significant event in the emerging role of the Bank as the principal financier to the Myer Rundle Mall Development Project occurred in August 1990. Whereas, at the time when syndication documents were executed, the Bank was hopeful of selling down its participation in the first tier financing arrangements, the efforts of its management to do so proved fruitless. Board Papers inspected by this Investigation indicate that another Bank, which had been interested in taking up some of the risk of the Bank in the first tier financing facility, eventually declined to do so as a consequence of its perception of a decline in the Australian economy generally. I have not sought to verify whether or not this was the case; suffice it to say that the Board of Directors of the Bank was advised in August 1990 that no further sell-down of syndicated first tier finance was proposed.()

Thus, the history of Bridging Finance after the September 1989 Proposal was approved, may be shown in tabular form as follows:

Date of
Approval

Bridging
Term

$M Facility
Limit

27.09.89

31.10.89

25.0

23.11.89

22.12.89

270.0

21.12.89

30.01.90

290.0

25.01.90

28.02.90

300.0

26.04.90

31.05.90

335.0

[insert table here]

Note: Extensions of duration of facility were approved by Mr Mullins as Chief Manager, Corporate Banking, after expiry of the term of the facility, on 28 February 1990 and 31 May 1990.

Thus, the amended September 1989 Proposal as it was finally implemented provided credit facilities totalling $580.0M of which $290.0M was provided by the Bank. $70.0M of the Bank's contribution was first tier financing, and the remainder was second ranking to the rights of first tier financiers.

Very substantial delays occurred in the progress of works in the latter part of 1990. I have not sought to identify each cause of this delay, nor to attribute to each cause of delay a specific duration. The reports presented by Management of the Bank to the Board of Directors identified as causes of the delay, defective workmanship, inclement weather, a decline in general productivity, and industrial disputes.()

These delays caused a substantial revision of the estimated date of completion of the project. In October 1990, the estimated date of completion made by the Bank was put back to 25 February 1991. The effect of these delays was to require increased holding charges to be capitalised to the project and a delay in the receipt of rental income.

Management of the Bank also became aware that costs would be incurred for which existing contingency allowances for the project would be insufficient. I have not investigated the cause of these additional expenses other than to identify the nature of the expense sufficiently to say whether or not it was of a kind which ought to have been anticipated when estimates were originally made. In the report of Management to the Board of Directors of the Bank, dated 22 October 1990, and prepared by Mr J V Henderson, the additional costs other than those caused by delay were said to include:

"...

. design and construction costs not funded within current contingencies - $17.2M;

. Myer compensation and associated costs - $6.1M;

. provision to meet sub-contractor loans currently funded under Facility C should reimbursement fail to eventuate - $6.9M."

The reference to "Myer compensation and associated costs" is a reference to the compensation which REMM Group had agreed to pay Myer Stores Ltd in the event that it suffered loss of profitability during the period of relocation of its retail outlet whilst the project was completed. (It will be recalled that, under the terms of the Rundle Mall Performance Guarantee, the Bank was a guarantor of REMM Group in this respect.)

The reference to "provision to meet sub-contractor ..." is a reference to an extraordinary expense which arose when REMM Group incurred additional obligations to the sub-contractors of ALLCO Newsteel in order to induce them to complete work after termination of the sub-contractor between REMM Group and ALLCO Newsteel.

The additional funds required for "Design and Construction cost" and "Myer compensation" were clearly of the kind which could have been anticipated at the time of making original estimates. The provision of payments of the kind necessary to induce the sub-contractors of ALLCO Newsteel to continue work after ALLCO Newsteel had been excluded from the site is less clearly something which ought to have been anticipated at the time when original cost estimates were made.

In October 1990, Management of the Bank requested the Lending Credit Committee to approve and recommend to the Board an increase in the facilities provided by the Bank in order to complete the project, of $45.0M. The Lending Credit Committee considered that application at its meeting on 22 October 1990 and, at that meeting, approved and recommended the increase to the Board of Directors. The matter was then considered by the Board of Directors at its meeting on 25 October 1990.

The situation facing the Board, at this time, was much the same as the situation which it had faced several times before. It had either to approve the funding or run the risk of causing a substantial delay in the completion of the works. If it caused an additional delay, this in turn, would cause yet further need for funding in order, finally, to complete the works. Meanwhile, it was committed, by reason of the Myer Rundle Mall Performance Guarantee to see that the works were in fact completed. It was obviously in the best interests of the Bank that they be completed as quickly as possible; at the time when this decision was to be made, the major works were clearly nearing completion.

On 25 October 1990, the Board approved the Proposal presented to it, and hence an additional facility of $45.0M was made available. Needless to say, the additional facility ranked behind all prior facilities.

During October 1990, a further difficulty arose when documents certifying the progress of works were not satisfactory to the syndicate financiers. Accordingly, the usual drawdown on syndicate facilities could not be made. This situation had the potentiality to halt or substantially delay the progress of works. Accordingly, Management of the Bank determined to meet payments for the progress of works from the non-syndicated funds being provided by the Bank. At the same time Management of the Bank re-engaged Mr Chandler to reassess the situation, and to assist with the documentation.

Payment of the funds under the syndicated finance arrangements did not resume in November 1990. In December 1990, Mr Chandler made an interim report to management in which he indicated his opinion that the works would not be completed until about June 1991, and that building costs would substantially exceed the amount previously estimated. The impact of this delay, and of the revised building costs, together caused the management of the Bank to make a revised estimate of the overall funds required to complete the project. This estimate, based on the advice of Mr Chandler, was that $684.0M was required for that purpose. The funding required to finance the project to 31 March 1992 (when the syndicated arrangements were due to expire) was estimated by the management of the Bank to be $744.2M.

This grave state of affairs was reported to the Board of Directors in a Proposal dated 18 December 1990, prepared by Mr Henderson, and presented by Mr Mullins. The Proposal recommended an increase in funds from $335.0M to $398.0M. The Proposal was considered by the Lending Credit Committee at its meeting on 18 December 1990, and that Committee decided to approve it, and to recommend it to the Board.

The Board was informed in the Proposal that progress on construction remained at a very slow rate, due in part to industrial disruption and inclement weather. The Board was also informed that payments under the syndicated financing arrangements had temporarily ceased, but were expected to be regenerated in mid January 1991. In addition, the Board were advised that the financial position of REMM Group had deteriorated still further.

Of major importance is the fact that the report dated 18 December 1990, written by Mr Henderson, disclosed that if the Bank were to fund the additional requirements of the project through to 31 March 1992, such funding requirements would exceed the prudential limits applicable to the Bank.

Finally, the report to the Board made in December 1990 advised:

"The reality of the situation is that the project must be completed by the REMM Group - in whatever shape that may be. The Chandler scenario for a Non-REMM Group completion is for a further delay of at lease [sic] three months with additional costs in the range of $45-50M."

Not surprisingly, the Board determined at its meeting on 20 December 1990 to increase the facilities available to REMM Group from $335.0M to $398.0M.

This Investigation is concerned with the state of affairs which existed as at 12th February 1991. No further significant events occurred between December 1990 and mid February 1991. A report to the Board, dated 20 February 1991, and prepared by Mr Henderson and presented by Mr Mullins to the Board of Directors summarises the position of the Bank in connection with REMM Group as at mid February 1991. In particular, it records that the Bank's commitment to the REMM Group, in connection with the Myer Rundle Mall Project, was approved to limits of $398.0M. Of that sum, $325.0M had been drawn down. This report to the Board noted also that the Bank through Beneficial Finance was also exposed to the extent of $4.6M to REMM Group. It is noted in the report that syndicated funding payments recommenced in January 1991. The report also stated that a revision by Mr Chandler of his estimates of the amount required to fund the completion of works meant that approximately $25.0M would be required above the amount estimated by him in December 1990, for the project to be completed. Nevertheless, the authors of the report to management expressed the opinion that this additional cost could be subsumed within existing limits as approved by the Board.

The report of 20 February 1991 dealt with a number of incidental matters. No useful purpose would be served by a recital of the contents of that document, other than with respect to the topic "leasing progress". With respect to this topic the report made to the Board of Directors, on 20 February 1991 recorded:

"The leasing market is in a state of turmoil with the current depressed state of retail trading. It is obvious that tenants are "playing off" against each other, anxious landlords seeking commitments from retailers. In this environment it is becoming increasingly difficult to predict the likely final rental outcome from the speciality component of the Myer Centre.

...

The current expected rental upon completion is $28.5M compared to the original budget of $38.5M". [Emphasis Added]

The significance of the expected rental upon completion, as against original budget, is enormous. Rental income has a dramatic impact upon both the valuation of the premises and on the capacity of the premises to return an income sufficient to meet holding charges on the debt created by the project.

The final matter which needs to be recorded here is that by mid February 1991 the Bank had made no provision in its accounts for a bad debt in connection with REMM Group and in connection with the Rundle Mall Myer Project. The minutes of meeting of the Lending Credit Committee of 16 January 1991, however, record, in connection with this matter:

"Specific provisioning was not possible at this time, however information available suggested [sic] that potential for a shortfall ranging between $0 and $250M."

A report dated 17 January 1991, prepared by Mr Henderson and presented by Mr T L Mallett to the Board of Directors, contains the following in connection with potential loss:

"Simply applying the original capitalisation rate to the current income expectation would decrease the project's value to approximately $429M (excluding Head Lease fit out value on completion estimated to be in the order of $10M).

Given the position summarised above and the Bank's role as a second tier debt provider to the project, our potential exposure to loss in a downside scenario (sale on completion in present environment) would be $249M (not taking into consideration fees capitalised by the Bank, but as yet not brought to account or making any allowance for a successful claim against .... ALLCO)."

On 21 March 1991, the Group Credit Committee of the Bank approved the creation of a specific provision in the books of the Bank in the sum of $185.0M.()

It is not the function of this Investigation to investigate and report on subsequent events. In this particular matter, subsequent events have a capacity either to greatly improve or to greatly reduce the Bank's position as at mid February 1991. In those circumstances it would be inappropriate for me to express an opinion as to the likely loss as at mid February 1991, or shortly thereafter. It is sufficient to say that if the situation remained as it was in mid February 1991, it is unlikely that the value of the building then exceeded $450.0M and, if the costs incurred in order to complete the project were in excess of $700.0M then even without holding charges beyond the date of completion, the loss to date could reasonably be well in excess of $250.0M.()

14.2.4 COMPLEXITY OF THE TRANSACTION

It would be unfair to make judgements with respect to the diligence and competence of the officers of the Bank (including the Board of Directors) who were involved in this matter without first giving consideration to the complexity of the matters with which they were dealing.

As has been observed elsewhere in this Report, the essential requirement of a competent lending approval assessment involves consideration of:

(a) the ability of the customer to service the loan;

(b) the ability of the customer to repay the loan;

(c) the adequacy of security to be provided by the customer in the event that the customer does not repay the loan; and

(d) whether the particular transaction involves the Bank in a breach of its prudential guidelines by reason either of over exposure to a particular customer, or of over exposure to a particular sector of the economy.

The transaction in this case was multi-partite, and, even reduced to its simplest form involved a tangled web of legal rights and obligations. The Bank, as head financier, was at the centre of this tangle, having obligations to the developer (REMM Group), the principal proposed tenant (Myer Stores Limited), and to the other first tier financiers. When it assumed the role of joint venturer, as has been described above in Section 14.2.3, it assumed still further and different obligations, principally to its joint venture partner. The complexity of the transaction rendered the assessment of credit risk much more difficult than normal. In this case, it involved consideration of the likely profits or losses of Myer Stores Limited during relocation, because the Bank might be called upon to pay compensation for any loss under the obligations to Myer Stores Limited pursuant to the Rundle Mall Performance Guarantee. This, in turn, made assessment of the capacity to service the loan, and, of the adequacy of security, much more difficult than usual. This is but one example of the way in which the complex tangle of rights and obligations which made up the Project, caused the lending risk assessment to be unusually difficult.

The development itself was complicated by virtue of its size, multi function purpose, and location. That multi function purpose combined retail outlets (big and small) an amusement/theme area - a place of public entertainment, a public car park, a tavern, lettable storage areas, an office block and a food preparation area and food hall. The multi function purpose of the development made it difficult even for experts to assess the capacity of the development to generate income after completion. The capacity to generate income is, of course, a vital component in assessing the capacity to service the debt and the adequacy of security.

The development was further complicated by reason of the fact that it spanned the full gamut of property development. That is, from acquisition, through demolition and construction through fitting out, and management of incoming occupants. There are many uncertainties in such a vast project. The amount required to complete it was thus uncertain.

The financing of the project was also of unusual complexity. This complexity arose, not only out of the size of the project and the consequent size of the financial structure, but also by reason of the fact that the project was 100 per cent self funding.() Consequently, as the project was self funding and as capital requirements of the project were so large, the ultimate cost of the project was likely to be influenced very substantially by the rate at which funds were drawn down, the duration of the period between draw down and receipt of income after the development had been completed and occupied, and the rate at which income accrued from the developed site after completion. Assessment of these matters is a very complicated process, with many variable factors of an uncertain kind.

This brief reference to the nature, purpose and size of the development itself, and of the relationships between the project participants, demonstrates, in my opinion, that the assessment of the financing needs of the project, the capacity of the customer to service and repay the financial requirements of the project, and the adequacy of security, involved assessments of a most complicated kind. I am unable, from my own knowledge, to recall a larger and more complicated assessment of this kind being required of a financial institution in this State.

14.2.5 RELIANCE UPON EXPERTS

Assessment of the credit risks associated in financing this project obviously involved assessment of matters upon which expert advice was required. Similarly, management of the account required expert guidance. Furthermore, when the Bank assumed a role akin to that of a joint venturer, management of its responsibilities, as such, also required expert guidance. The Bank did not have, within its own workforce, persons of sufficient qualification and experience to provide expert advice on such a large and complicated project, at least in areas involving the disciplines of quantity surveying, real estate valuation, project management, construction management, and industrial relations. It was appropriate therefore for the Bank, and specifically its higher management, the Lending Credit Committee, and its Board of Directors, to seek expert advice in these matters, as required, in order to make competent decisions, particularly in connection with the assessment of lending/credit risk, management of the account, and the conduct of the project, as a joint venturer.

Whilst the engagement of experts of good reputation in the relevant fields was a matter of necessity in order competently to evaluate and participate in the management of the financing of this project, the engagement of those experts did not absolve management of the Bank, the members of the Lending Credit Committee, and the Board of Directors, of all responsibility in such matters on which it was their duty to engage experts. It was also necessary for managers (and I include in that description, for present purposes, both the employed managers and the executive and non executive directors of the Bank) to ensure that the experts they did engage were properly instructed, and to heed what the experts had to say when they gave the advice sought. Moreover, where the expert advice inherently or expressly involved matters of value judgement and matters of future prediction, it was appropriate for management to treat that advice as the expression of an opinion, and not to treat it as a statement of indisputable fact.

14.2.6 EXTERNAL INFLUENCES ON THE BANK

It should at once be recognised that this project had the potential substantially to benefit both the inhabitants of the city of Adelaide and South Australia generally. It was likely immediately to provide substantial employment in the building and construction industry within this State. On a longer term basis it was likely to establish a building and a complex of facilities within the city of Adelaide which would enhance both the Rundle Mall shopping district and provide a general tourist attraction. In my opinion, it would have been extraordinary if those members of the Bank staff whose duty it was to prepare the Proposal and for the Lending Credit Committee members and the members of the Board of Directors who considered it, to be impervious to, and totally unaffected by, the benefits which this project promised to South Australia. Moreover, they would have been reinforced in the belief that the project, if it could be made to work, would be of substantial benefit to South Australia, if they received indications that people outside of the Bank were of a like mind. If encouragement came from Government sources, the public benefit aspect of the matter would have been reinforced still further. Finally, it is the duty of the Board in the administration of the Bank's affairs to act "... with a view to promoting ... the maximum advantage to the people of the State ... ." () It should, at the same time, however, have borne in mind sub-section (2) of Section 15 of the State Bank Act.

Mr Mullins, who prepared the July 1988 Proposal (which was the most significant Proposal of all those considered by the Board) was plainly aware of the public benefit which would result in the event that the project went forward and was a financial success. He was also aware of the fact that unless the Bank took the lead and provided the finance that the project was likely to founder.() Moreover, at the time when he was engaged in putting together the July 1988 Proposal and engaged in the immediate implementation of it after it had been approved by the Board he gained the impression from his dealings with officers of the Department of Premier and Cabinet that Government was hopeful that the project would proceed.() Mr Mullins was plainly correct in his "impression" of Government attitude.()

Quite apart from the consideration of public benefit which it was plainly the duty of the Bank and its officers to consider, application of common sense and my own experience leads me to conclude that it must have been obvious to them, as a group, and individually, that to facilitate a successful project of this kind where others had failed to do so would enhance the reputation of the Bank in financial markets, and the reputation of the Bank officers concerned in employment circles within the banking industry.

The point of this discussion is to illustrate the fact that once the officers of the Bank concerned with the preparation of the crucial Proposal of July 1988 became convinced of the fact that the Proposal was likely, if it was approved, to lead to a financial success for the Bank, those officers had a powerful reason to "sell" the Proposal to the Lending Credit Committee and subsequently to the Board of Directors.

The position was different in so far as it concerned members of the Lending Credit Committee. It is noteworthy that members of the Lending Credit Committee would not have derived the same benefit by way of enhanced personal reputation if the project went ahead and was a success. Moreover, and most importantly, members of the Lending Credit Committee had, in a transaction of this size, no duty finally to decide on the merits of the transaction. It was their duty to make a recommendation to the Board, in particular with respect to the merits of the transaction and also with respect to observance of general prudential guidelines. In short, the Lending Credit Committee ought to have been less affected by external influences than the officers whose duty it was to put the Proposal together. They were both distanced from the applicant for credit and from personal gain associated with granting credit. It was their duty to examine the transaction generally in connection with prudential guidelines, to examine it specifically with respect to its merits, and to make a recommendation on which the Board could place some reliance.

Finally, in this context, the position of the Board of Directors and the influences operating on them must be noted. As stated above, the Board had a statutory duty to act with a view to promoting "maximum advantage to the people of the State." It had the duty also to consider the merits of the transaction and the magnitude of the loss which might be sustained if it was incorrectly assessed. At the same time the Board was entitled to pay regard to, and would have been foolish to ignore, the recommendation of the Lending Credit Committee which ought to have been independent and mindful of general prudential guidelines. Nonetheless, the Board had the statutory responsibility (Section 15(2)) to administer the affairs of the Bank in accordance with accepted principles of financial management and each member was required to bring an independent judgement to matters brought before the Board for decision.

14.2.7 THE BANK'S PRUDENTIAL GUIDELINES

The prudential guidelines which the Bank set for itself required:

"Exposure, both actual and contingent, to any one entity, not to exceed 20% of capital base at any time, excluding public sector.

Exposure to any one industry, other than public sector, housing and broad acre farming, not to exceed 20% of risk assets."()

When considering the matter of compliance with these guidelines, it should be recalled that, whilst the Bank undertook obligations to provide finance up to certain limits to REMM Group, there was no such limit in connection with the obligations which the Bank undertook pursuant to the provisions of the Rundle Mall Performance Guarantee. By their very nature, those obligations were limitless, and the Bank's exposure thereby was also limitless and plainly in breach of guidelines imposing limits of exposure to any one entity and to any one sector of the economy.

The REMM Group transaction, at each and every stage involved the Bank in a huge exposure to one entity and as well to one sector of the economy. No matter how "capital base" is defined, the exposure of the Bank, actual and contingent, exceeded the basic guideline laid down in 1984 as stated above. Under the terms of the July 1988 Proposal (Stage One), even with the State Government Insurance Commission underpin in place, the exposure was $250.0M, and at Stage Two, even with the exercise of the put option it was $166.67M.

There is little point to be served by consideration of the exposure of the Bank under later proposals and consideration of that exposure as against the Bank's prudential guidelines, because, later Proposals were accepted not out of free choice, but rather because the Board of Directors was more aware of its limitless commitment to Myer Stores Ltd.

The end result, as at February 1991, was that the Bank had approved facilities exposing itself to $398.0M and it was, in addition, exposed to whatever further sum was necessary to complete the project and to discharge the obligations of REMM Group to Myer Stores Ltd which the Bank had guaranteed.

It is not helpful, therefore, to attempt a precise calculation of the amount by which the Bank transcended its general prudential guidelines at each stage in the evolving transaction. Suffice is to say that, from start to finish, the Bank, and, in particular, the Board of Directors and the Lending Credit Committee ought to have been aware of the fact that it was undertaking obligations which exposed it to enormous losses in the event that REMM Group could not satisfy its obligations, especially if there was a downturn in the economy generally and in the retail property market in particular.

14.2.8 PROXIMATE CAUSES OF LOSSES TO THE BANK

In the simplest of terms the Bank advanced to REMM Group directly or to others on its behalf, amounts which REMM Group has no capacity to repay now, nor is it likely to have that capacity in the foreseeable future. If the assets which constitute the security for the facilities are realised, they will, in all probability, realise considerably less than the amount which has been advanced. The situation that was the outcome of these events developed principally, because the project cost was considerably more to complete than was envisaged by REMM Group and the Bank, and because the project, on completion, is worth considerably less than REMM Group and the Bank anticipated, largely because rental income derived from occupation of the centre is less than anticipated. The Bank, in a submission dated 23 March 1992 to me, states that its losses in respect of this account were caused, inter alia, by:

"Over reliance on good economic times Pioneering - no prior product expertise Approval outside normal criteria Poor Research ..."

(The Bank has, in later submissions to me, expanded on the above statement and provided considerable amounts of detailed evidence and analysis of the causes of its losses. The statement taken from the submission dated 23 March 1992 ought not of itself assume great prominence.)

This Investigation confirms the correctness of these submissions by the Bank; though, as the foregoing analysis shows, they are not exhaustive.

14.2.9 EXTENT OF LOSSES

I am required by my Terms of Appointment to have regard to losses arising from Non-Performing Assets as at the date of my appointment in February 1991. To do this with respect to the facilities provided by the Bank to the REMM Group, would not disclose the full impact of the Bank's commitment. The project was incomplete, and material additional advances were required to be made by the Bank after that date. At that date, the development was not finalised, and the Bank was committed to advance additional funds of a material amount.

My Investigation, pursuant to my Terms of Appointment, has established that a loss of up to $250.0M had been incurred by the Bank in February 1991. Since that date the Bank has written off an amount of $290.0M and has established a further loss provision of $129.5M with respect to facilities associated with the development.

 

14.3 CHRONOLOGY

 

The Chronology of Events relating to approval of credit transactions appears in general terms in Section 14.2.3 above.

Details of the composition of the Board of Directors and of the Lending Credit Committee meeting which approved specific transactions appear in Appendix C.

The conditions subject to which the Credit Approval of July 1988 was made by the Bank Board of Directors is stated in Appendix D.

 

14.4 COMPLIANCE WITH POLICIES AND PROCEDURES

 

Chapter 8 - "Credit and its Management: Guidelines, Policies, Processes, Procedures and Organisational Delivery Mechanisms" of this Report details the lending policies and procedures that applied over time within the Bank.

14.4.1 INITIATION OF THE FACILITY

The Bank's first involvement with the financing of the Myer Rundle Mall Development occurred early in 1988, when it was approached by ANZCAP, which was then seeking to put together syndicated finance to the extent of $430.0M for the project. ANZCAP was seeking to develop a financial package with itself as the lead manager of the syndicate. It sought from the Bank participation to the extent of $40.0M in a Letter of Credit as part of standby facilities forming part of the backup finance to the project.

The approach from ANZCAP was assessed by the Bank. That assessment was detailed but it was made in the knowledge that ANZCAP, as lead financier, would have a substantial stake in the matter. As the Bank has pointed out to this Investigation, ANZCAP "were experienced, and reliance could be attributed to their involvement".()

In May 1988 the Proposal made by ANZCAP was considered by the Lending Credit Committee, which approved the transaction. It was then considered by the Board of Directors, which also approved the transaction. After this approval was given, however, but before implementation of the arrangements proposed by ANZCAP there was an announcement of a change in taxation law, and as a consequence, the ANZCAP Proposal ceased to be viable and was abandoned by ANZCAP.

It is important to note that the ANZCAP Proposal failed because of a change in tax law. The importance of this is that the syndicated arrangements which had been proposed were no longer viable, and, accordingly, what was, required was, not a new financier, but a new financial structure. Accordingly, once the ANZCAP Proposal ceased to apply and the Bank became a serious contender as the lead manager of the syndicate it became inappropriate for the Bank to place reliance upon judgements made by ANZCAP. The reasons for this are obvious and include:

(a) the Bank was no longer considering an exposure limited to $40.0M;

(b) the Bank was now considering participation of a different kind, ie not as a participant in a back up facility but rather as Lead Manager; and

(c) the whole funding structure needed to be different.

I should mention, at this point, that the Corporate Banking department of the Bank realised that unless the Bank could put a successful Proposal together the project was likely to fail.() Furthermore, the members of that department were aware of the benefit which this project promised for South Australia.

Mr Mullins and his sub-ordinates then sought to develop a viable financial structure for the project. They relied upon, and used, information which they had gained in the course of assessing the ANZCAP Proposal. Crucial to the development of the financial arrangements were two facts. The first was the cost of the development; and the second was the level of rental income likely to be received from use of the premises after completion. Basic information with respect to the cost of completion was obtained from REMM Group, and from its quantity surveyors W T Partnership. Basic information with respect to the level of rental income likely to be achieved was obtained from REMM Group. The value of the undeveloped site, and the value of the developed site were obtained from REMM Group and their consultant, Colliers International Property Consultants. This valuation also expressed opinions with respect to the level of rental income likely to be achieved.

With the basic information obtained from these sources, Mr Mullins and his staff obtained advice from Ayers Finniss Ltd in the nature of a sensitivity analysis. They then developed the financial structure and negotiated the 'put option' and 'risk underpin' with State Government Insurance Commission.

The investigation, assessment, and negotiations, made by Mr Mullins and his staff, culminated in a document, ie, the July 1988 Proposal. The Investigations and sources of information described in the two preceding paragraphs were not the only investigations and information made and obtained by Mr Mullins and his staff. In his written submission to me (undated but received in October 1992) Mr Mullins stated, as a "... non exhaustive list of ... research/analysis ..." the following additional work performed:

". Inspection of the Brisbane REMM Myer Centre and analysis of construction and letting performance achieved.

. Discussions with REMM directors, senior project personnel and project consultants.

. Discussions with the valuer of the Brisbane Centre.

. Discussions with senior Myer executives involved in the Brisbane and Adelaide projects.

. Discussions with SA based Commercial property professionals including valuers aside from Colliers International Property Consultants.

. An analysis of historical rental performance of Rundle Mall retail properties and future projections.

. A comparison of the past history and future projections for retail rentals in Adelaide and Brisbane and the level of competition facing their respective Myer Centres.

. A comparison with trends in retail sales and rentals in other Australian cities and CBD's.

. An analysis, with input from economic forecasters, of the future prospects for retail sales in Rundle Mall.

. Discussions with other financiers involved in large construction projects.

. Discussions with various other parties involved in the construction industry."

The July 1988 Proposal comprises a core document of approximately fourteen pages in length, and a series of Annexures, totalling, in all, a further twenty three pages. Many statements of fact are contained in the core document. The Annexures contained numerous estimates of expenses, income, periods of time which might be required to perform certain tasks, interest rates, and the like.

In the course of this Investigation of the matter, I have had the document and the Annexures carefully examined. I have done so with a view to ascertaining whether or not the Proposal presented a reliable factual basis on which the Bank Board of Directors could make a competent assessment of lending risk. The process involved, not simply an examination of the correctness or otherwise of statements of fact and opinion contained in the document, but, as well, consideration of the adequacy and balance of the document as a whole. In short, I considered the question: did the Proposal present to the decision maker all essential information required for the decision, and did it do so in a balanced way?

I am mindful, in making criticism of the Proposal of the ease with which it is possible to be correct in making value judgements with the benefit of hindsight. When making my assessment with respect to the competence with which this document was prepared, I have considered all of the criticisms which might be made of it, but I have decided that I should not place any weight on those criticisms which can only be made with the benefit of hindsight. Moreover, I do not propose to mention in this Chapter criticisms of the Proposal which might be made, but which have no bearing of the cause of losses suffered by the Bank.()

In my opinion, the July 1988 Proposal was defective in five major respects, each of which was material to the assessment of credit risk at the time embodied five major defects and each of which was causative of loss to the Bank.

(a) Valuation Related Issues

The first of these defects concerns the valuation of the project on completion. The Proposal correctly stated that the two key factors determinative of the actual value of the Centre on completion were "... the level of rentals achieved and the capitalisation rate adopted."()

The valuation made by Colliers International Property Consultants was made on the basis of a capitalisation rate of 7 per cent. The valuation, however, pointed out the uncertainty associated with that assessment. The relevant portion of the valuation document concludes with the following:

"It must be recognised that 7% capitalisation rate is being applied as at October 1990, which is almost three years from the date of valuation. Given the limited availability of comparable evidence at the time of writing, and the obvious difficulties associated with projecting capitalisation rates, it would therefore seem appropriate that this valuation be reviewed periodically as the project draws closer to completion."()

The Proposal made no mention of this cautionary statement contained in the valuation. It ought to have been mentioned because the capitalisation rate, if varied slightly, dramatically affects the end value of the project on completion. Whilst the Annexures to the Proposal did contain calculations based upon an increase in the capitalisation rate, no caution was given with respect to the use of 7 per cent when a caution was clearly required.

With respect to the estimates made by Colliers International Property Consultants with respect to likely rental income, the written valuation assessed likely rental from each of the separate elements contained in the development ie a separate assessment was made with respect to each discrete area within the Centre. One has only to read the valuation document to see that each contained different considerations, and that certain elements of the assessment had to be made without the benefit of experience of similar developments in this city, or any long standing similar developments in this country. The valuation correctly drew attention to the fact that rental income was largely to be dictated by market forces. The fact that there was a lack of reliable evidence on which to base estimates, and the fact that market forces would be the determinative factor, ought to have prompted a very conservative approach to the estimation of rental income. This also should have prompted a specific caution in the Proposal.

Taken as a whole, the Proposal misrepresented the expert's evaluation. The expert's report had expressed caution with respect to each of the critical factors ie capitalization rate and predicted income. The Proposal did not mention the unique difficulty which the valuer had encountered ie, lack of comparable evidence. It presented the end valuation and the capitalization rate used - there was no caution that the capitalization rate might change. It made no cautionary statement at all about the rental estimates used in the Collier's valuation. The Proposal and the Annexures to it presented as the "worst case" scenario, a valuation on the basis on a capitalisation rate of 7.5 per cent and a discounting of rentals projected by REMM by an average of fourteen per cent. These assumptions should be considered together with the further qualifications stated in the expert's report including the following:

"Finally we make two observations regarding the development and valuation of it.

Firstly, the development is at this stage no more than a proposal, and one which is of an unprecedented magnitude for this city. The process of determining this valuation has therefore required that a large number of assumptions as to the future course of events in the local Australian property market be made. The validity of all these assumptions will only be able to be tested with the passage of time. We re-iterate our earlier statement that the performance of the Myer re-development in Brisbane will provide a better guide as to the likely success of this proposal than has previously been available...

Secondly, the evidence on which this valuation is based is largely of transactions which occurred prior to the recent substantial fall in the stock market. Due to the long period of time between property transactions being commenced and concluded, we do not have sufficient information to accurately comment upon the current state of the property market. We have made our estimates on the effect of the drop in share prices, but until a more stable market is established and a longer period has passed to enable "post fall" property transactions to be analysed, we cannot be certain of the implications for property values.()

In my opinion, having regard to specific caution in the Valuation with respect to the capitalization rate; with respect to the lack of sufficient evidence of comparable rentals; with respect to the large number of assumptions with respect to future events in the property market; and with respect to the effects of the substantial fall in the stock market, the `worst case' scenario was far from being the limits of disaster suggested by that expression. It was, in my opinion, quite conceivable, having regard to the Valuation as a whole, that the situation would be worse than the 'worst case' and might be so by a wide margin. The July 1988 Proposal was misleading in this respect.

(b) Assessment of Likely Cost of Completion

The second of the defects in the July 1988 Proposal was the assessment of the likely cost of completion.

In this respect, the Proposal referred to the building strategy and contractual arrangements which REMM had traditionally adopted, and, in particular, the use by REMM of fixed price contracts, supported by significant performance guarantees. After this discussion, the Proposal contains the following statement:

"Of the Design and Construction costs of $200m, approximately $150m will be covered by these fixed price contracts backed by performance Guarantees. A further $25m is a fixed payment to Myers to cover the fitout of its new store. This leaves only $50m which is exposed to cost overrun for which a contingency allowance of $18.8m has been allowed in the project cost. REMM's quantity surveyor, W T Partnership, has confirmed these figures."()

The matter of cost overruns was correctly identified as one of the major risk factors in the project. The assessment of it, in the statement quoted above, was grossly defective. I draw attention to the following matters in connection with it.

(i) An assumption is made therein that because a fixed price contract is let, and is supported by a guarantee, that the cost of performing the work, the subject of that contract will be no more than the fixed price provided by the contract. It would be naive to make this assumption without first examining the precise terms of the contract, the precise terms of the guarantee, the expertise of the party performing the work, the financial stability of the party performing the work, and other factors. Furthermore, contracts of this kind normally provide for variation in the scope of works, escalations in price, allowances for delays and other contingencies. Unless all of those things were excluded by the contract, the fixed price contract can hardly be regarded as being a firm price for the work that is in fact performed. Moreover, the enforcement of guarantees is not a simple matter, and depending upon the terms and parties to the guarantee, it may not provide much protection.

(ii) It should recognise that the development, to the stage of July 1988, was no more than a proposal based on architect's specifications on which indicative costings had been made.() This should have been obvious from a reading of the Colliers International Property Consultants valuation and from the presentation of estimates by the REMM Group quantity surveyor, W T Partnership. Moreover, the contracts in question had not been agreed, even as to their terms.() Additionally the W.T. Partnership estimate makes it clear that this was a design and construction project. The Valuation of Colliers International Property Consultants and the Indicative Estimates of W.T. Partnership must have been inspected by Mr Mullins before he wrote the Proposal. If they were not the fact that he wrote the document without seeing them would have been an enormously irresponsible act.

The advice that cost overruns could only occur in respect of an element of $50.0M in the project, when the development's design had not been completed and contracts for the works had not been agreed was naive, misleading, and irresponsible.

(c) Credit Risk Assessment on Matters of Delay for Completion

The third defect in the Proposal which was relevant to the assessment of the credit risk relates to the assessment of delay in completion of the works.

The July 1988 Proposal correctly identified industrial disputation as a major source of delay to the completion of work. In this respect, it is possible to be critical of the assessment which was made by the Bank, as stated in the Proposal, of the capacity of REMM Group adequately to control the industrial situation. That assessment involved a value judgement, including a judgement of the capacity of particular individuals to handle particular situations. I am in no position to make that assessment except with the benefit of hindsight, and I am therefore not prepared to be critical of the assessment which was made. The fact that industrial disputation exceeded the level which was expected is not evidence of the fact that the assessment which was made in the first place was not a competent assessment.

What is important, however, with respect to cost overruns associated with time delay is that other sources of time delay do not appear to have been given appropriate weight in the assessment contained in the July 1988 Proposal. In particular, there was no assessment of the potential delay in gaining access to the development site. Nor is there mention of delays of other kinds in the construction process, e.g. delays associated with poor workmanship, or disputes with contractors, or delivery of goods on site or delays in getting agreement as to the terms of contracts agreed with contractors. The combined effect of these additional factors was something which ought to have been addressed for no better reason than that any delay was of importance in the costing of this project. Delays of the kind mentioned did occur, and were in some instances, substantial.()

The degree to which the Board were misled with respect to the cost of the project is perhaps best seen by reference to the annexures 'E' and 'F' to the Proposal. They presented a 'probable' cost estimate of $443.0M and a 'worst case' cost estimate of $448.0M. Bearing in mind the matters discussed above ie costing generally, and the effect of delay, this presentation of 'worst case' costs was grossly naive and irresponsible.

(d) The Rundle Mall Performance Guarantee

Fourthly, the July 1988 Proposal was defective, in my opinion, in that it failed to give sufficient emphasis to the obligations which the Bank would be undertaking under the terms of the Rundle Mall Performance Guarantee. The relevant portion of the July 1988 Proposal stated simply this:

"In the Heads of Agreement between Myer and REMM covering in particular the surrender of Myer's lease over its existing store, it is a requirement that REMM and the project financiers guarantee, as far as practicable, the completion of the Myer Centre and occupation by Myer of the new department store. In return, Myer will give an irrevocable commitment to enter into a seventy five year lease of the store."

That statement did not, in an unambiguous and unequivocal way, state that the guarantee would be provided by the Bank alone and not shared by all of the financiers. It did not explicitly point out that if REMM had made a gross miscalculation as to the amount for which it could let contracts and of the amount actually required to complete the complex then the Bank would in effect have to finance the additional cost whatever it might be. The financial implications of this guarantee were so great that they should have been highlighted.

Had due consideration been given to the uncertainties in the estimates of rental income and end value, and due consideration been given to the potential causes of delay in completion of the project and the uncertainties of the estimate of the cost of the development, a much less viable proposal would have emerged, and the full implications of the guarantee might have been appreciable.

As a whole, the July 1988 Proposal was, in my opinion, a document which lacked balance. It did not give sufficient warnings as to the reliability of the valuations made by experts. This applies both with respect to the end valuation of the project on completion, and to the estimate of rental income, and with respect to the cost of the project. It presented the cost of construction of the works in a way which misrepresented the risks involved, and it presented as close to definite an estimate which was based on a proposal and indicative costings.

(e) Issues Related to Syndication

Finally, the Proposal was defective in respect of the time within which syndication would take place. It stated that syndication "... is expected to take about 8 weeks".() Bearing in mind that REMM Group had not, by this stage, gained access to the site, the complex nature of the project, the fact that contracts had not been made for provision of the major construction works, the qualifications in the valuations and the indicative nature of the cost estimates, the ease with which it was expected that syndication would take place was totally misplaced. Syndication turned out to be a major problem, and ended with the Bank's undertaking a greater exposure than it originally intended.

(f) Other Matters Relating to the July 1988 Proposal

Mr Mullins, in his written submission to me of October 1992, has stated that he intended that a combined written and oral presentation of the matter would ensue. He did attend the relevant meetings of the Lending Credit Committee and the Board at which the Proposal was considered and he was questioned extensively about the Proposal. Be that as it may, neither the Lending Credit Committee members, nor the Board members, were as familiar with the matter as he was. The function of the Proposal was to present information and issues for consideration, and to do so in a balanced way. Unless that was done, the members of the Committee and the Board would not have had their attention drawn to all relevant issues, nor would they have appreciated the relative importance of various issues.

The July 1988 Proposal was inconsistent with the annexed Sensitivity Analysis of Ayers Finnis, in two respects. First, in the body of the Proposal the worst case scenario was based on projected rentals being discounted by 14 per cent, whereas the Sensitivity Analysis provided a 5 per cent discount factor. Secondly, in the body of the Proposal in the worst case scenario rental growth was estimated at 8 per cent per annum, whereas in the Sensitivity Analysis a 9 per cent factor was applied.

14.4.2 APPROVAL OF FACILITY

In the ordinary course of events, the Lending Credit Committee would consider a Proposal and prepare a recommendation for the Board, which would then be forwarded to the Board in the form of a detailed Proposal, usually at least three or four days before the Board meeting.()

In this instance the Proposal was finally documented on 27 July 1988, and forwarded in the same form to both the Lending Credit Committee and the members of the Board, who were to meet the following day.

The Lending Credit Committee met late in the morning of 27 July 1988, and the Board met at mid morning on 28 July 1988. Thus the members of the Lending Credit Committee had virtually no time in which to make a detailed assessment of the document. The Board members may, or may not, have had time within which to study it in detail - that would depend on their other commitments on the afternoon and evening of 27 July 1988 and the early morning of 28 July 1988.

Mr Mullins attended the Lending Credit Committee meeting. Discussion of the Proposal at that meeting was of at least 3 hours duration.

Mr Mullins also attended the meeting of the Board in order to answer questions on the Proposal. He was questioned by members of the Board on various aspects of the Proposal, including assumptions made in the valuation, and the effects of industrial disputes on the project.()

There was urgency in the consideration of the matter. Arrangements between Myer Stores Ltd and REMM Group were such that Myer would only relocate at certain times of the year and, if a delay occurred in commencement of the works, a substantial additional holding charge would be introduced into the costing of the project, because REMM Group had acquired the site and were incurring these charges pending finance arrangements for the development.() A delay in approval of the finance would result in additional holding charges, not just for the period until approval was given, but, also having regard to the estimated construction period, to the next opening date thereafter on which Myer would agree to relocate.

The fact that the Project might not be able to survive if those holding charges were to be incurred was an excellent reason for the belief that the margins for error in the project estimates were very slight!

It ought to have been appreciated that the financial viability of the project was no more than finely balanced. That appreciation ought to have been made because:

(a) the sensitivity analysis (Annexures "E" and "F" to the Proposal) demonstrated that with relatively minor alternations to key factors in the calculation markedly different and adverse results would be achieved; and because

(b) the analysis was of a project which had been developed only in concept and it was therefore likely that variations as to cost of completion; time to complete and end value would occur.

The `worst case' presented was not finely balanced. Given the uncertainties in the assessment of risk it was far too risky to undertake.

The general evidence of the fact that the Proposal was no better than 'finely balanced' is that other financiers had ceased to be interested in it. State Government Insurance Commission had to be persuaded to agree to the 'put option' arrangements in a course of detailed negotiations. The Proposal itself relied upon a contribution so small in the overall scale of things as the deferral of government charges, in order to provide sufficient comfort to a financier.

It was, or ought to have been obvious, to members of the Lending Credit Committee and the Board of Directors who considered this Proposal, that the 'worst cost' presented in the sensitivity analysis was not an extreme, it was only a minor variation of the events said to be likely to occur and the 'worst case' was barely profitable.

I do not overlook, in making this assessment, that the construction cost estimate included $25.0M payable to REMM Group for its services in connection with the project and that these costs were to remain undrawn as a means to guard against cost overruns. Furthermore, I do not overlook that $18.8M had been allowed in the calculation of the contingency allowances within the costing of the project. Nor do I overlook that rented income estimates were discounted by 14 per cent. The fact is, however, and this is apparent from reading the Proposal itself, that the confidence expressed in the Proposal with respect to cost estimates, was inappropriate. Too much reliance was placed upon the benefits of fixed price contracts. The Proposal contained no discussion of the possibility of delays associated with causes other than industrial disputation and ineffective work practices. The assumption was made that REMM would be able to engage contractors to do the work, on the basis of cost estimates made by REMM Group. Furthermore, there was a grave risk that the cost estimates might be inaccurate to a substantial degree. There was also an obvious risk that estimates of rental income might not reach even the discounted level used in calculations. All of this is obvious from a careful reading of the document itself and with the benefit of hindsight. But even without that benefit the fact that the financial viability was finely balanced should have been perceived.

Thus there was a grave risk of inaccuracy, both in the cost estimates and also in the end value calculation. Furthermore, it is obvious from a reading of the Proposal itself, that if the cost of construction exceeded $485.0M, then the put option would provide no protection to the Bank in connection with the excess beyond $485.0M. Thus the Bank would be expected to bear that risk.

In my opinion, there was a substantial and obvious risk that the cost of the development would exceed the estimates made in the Proposal.

Accordingly, for the reasons discussed above, ie a risk of cost estimates being in excess of those predicted, and a risk of end value and rental income being less than that predicted, there was a substantial prospect that the Bank would sustain loss if it financed the project.

With respect to the magnitude of that loss in the event of either an increase in costs, or a diminution in rental income, or an increase in the capitalisation rate to be applied for the purpose of assessing end value, one needs to look only at the sensitivity analysis which formed Annexures E and F to the Proposal to conclude that there was potential for very substantial loss.

I refer first to the estimate of rental income. On the assumption that the development cost was $443.8M, and with estimated rental income of $38.73M per annum, and using a capitalisation rate of 7 per cent, the sale value of the project was estimated at $553.3M. Using the same capitalisation rate and an increase in the cost of the project by only $5.0M, if the projected income is diminished by approximately 12.5 per cent, the sale value is reduced to $483.15M. In short, a modest diminution in income, and a very slight increase in project costs, is likely to produce a very substantial diminution in sale value ie about $70.0M.

I refer next to the diminution in sale value according to the increase in capitalisation rate used for the purpose of assessing sale value. Using the figures presented with the project being completed for $443.0M and using a capitalisation rate of 7 per cent the sale value was calculated at $553.3M. If however, the capitalisation rate is 8 per cent the sale value is diminished to $484.1M. Consequently a variation in capitalisation rate alone was likely to have a significant effect upon sale value, ie about $70.0M.

To state the obvious, if there was a combination of cost overrun, diminution in rental income, and diminution of end value, there was both a substantial prospect of losses being sustained by the Bank, and also a substantial prospect that those losses would be large.

In the assessment of whether due care and diligence has been exercised, one must take into account the surrounding circumstances in which a decision is taken, and assess both the magnitude, the risk of loss, and the extent of the loss if the risk becomes the fact. One must balance against the magnitude of the risk and the magnitude of the potential loss, the adverse effects of not undertaking the risk.

In this case, the Lending Credit Committee members did not have time for deep reflection on this complicated matter before making its recommendation. Those members did have time for lengthy discussion, and indeed, their discussion was lengthy, but that is no substitute for careful consideration of the calculations, and that was what ought to have been undertaken. If it had been undertaken it would have revealed that the risks involved in this venture were much too great for a prudent banker to undertake. Those members cannot be excused for failing fully to appreciate the risks well knowing that the Board would in any event be reliant on the review of the Lending Credit Committee. The Board, nonetheless, itself had an independent responsibility in this matter. However, in one respect the Lending Credit Committee was clearly at fault. If they had not had the opportunity for careful reflection and were in need of more time to consider the matter they should have said so. Their unqualified 'recommendation', if it was not made after due consideration, was likely to mislead the Board into believing that they had carefully considered it. Moreover, they ought at least to have expressed some concern, on the grounds of the extent of exposure to one customer, at the risk which the Bank was undertaking.

In so far as the members of the Board of Directors who approved the July 1988 Proposal are concerned, if they had had insufficient time in which carefully to consider the estimates, it was their duty to require more time, no matter what the urgency of the decision may have been. This was not a matter of life and death no matter how it was presented. Moreover, if they considered the information provided to be unsatisfactory, or insufficient, it was their duty to seek information on which they could rely. This was the biggest project of this kind on which the Bank had ever embarked!

In my opinion, the July 1988 Proposal presented a project which contained several elements of risk, each of which was substantial and the margins for error were slight. If any of the risks eventuated loss was possible and if several of the risks eventuated the loss would be great.

I wish it to be understood that, in my opinion, the Proposal was dangerous. There was a substantial prospect that a loss would be sustained by the Bank if it accepted it. Moreover, the risk which was involved in the danger was substantial. The loss which the Bank might sustain could well have been very substantial.

The obligation on the Board of Directors to consider the "maximum advantage to the people of the State" in the management of its affairs did not, in my opinion, provide a substantial counter balance to the risks which were inherent in the Proposal.() The Board also had a clear statutory duty to administer the affairs of the Bank in accordance with the accepted principle of financial management and with a view to achieving a profit (Section 15(2) of The State Bank of South Australia Act 1983).

In my opinion, the decision to approve the July 1988 Proposal was extremely ill advised. The responsibility for that decision must be shared between the Management of the Bank which prepared the July 1988 Proposal; the members of the Lending Credit Committee which considered and recommended it; and, finally, the members of the Board of Directors meeting which considered and approved it. The Proposal was itself defective, both in what it said and in what it failed to say. The defects in it as a whole ought to have been perceived by the members of the Lending Credit Committee which considered it, if they had considered it, and it was misleading for that Committee to 'recommend' the transaction unless they had properly considered it. The defects ought also to have been perceived by the members of the Board of Directors who attended the meeting on 27 July 1988 for the purpose of considering it. No useful purpose would be served by attempting to apportion the responsibility for this ill advised decision. Members of the Board were entitled to rely on the recommendation of the Lending Credit Committee, but they were not entitled to abandon their statutory responsibility, and accept those recommendations without giving them appropriate consideration. Members of the Board were required to exercise an independent judgement, placing such reliance on advice as their experience and knowledge told them was prudent.

With respect to the later decisions of the Board of Directors in connection with later proposals associated with the financing of the development, one must recognise the importance of the Rundle Mall Performance Guarantee Agreement. The effect of that document was to commit the Bank to the completion of the project no matter what the cost. I am satisfied, on my assessment of the situation as it emerged, that the Board of Directors, once the original blunder had been made had very little option but to approve the further extensions to the facilities, as they did. The extensions to the facilities which were granted, after the July 1988 Proposal was approved, were, in my opinion initially inevitable.

14.4.3 SECURITY

This Investigation has not found any irregularity or abnormality in connection with the security phase of the loan cycle, save for that reported below at Section 14.4.5 in connection with Advancement of Funds.

14.4.4 HINDSIGHT OVERVIEW

The relevant decisions in relation to this matter were made by the Board of Directors. Accordingly the hindsight overview process was inappropriate and was not employed.

14.4.5 ADVANCEMENT OF FUNDS

In my opinion, the conduct of officers of the Bank in connection with the documentation of the "put option" and the "risk underpin" was highly irregular. Both the "put option" and the "risk underpin" involved substantial sums. There might have been need for the Bank to enforce the arrangements which were envisaged. Great difficulty would have arisen had the Bank needed to do so, by reason of the fact that these arrangements were documented only in an exchange of letters. It was envisaged originally that the "risk underpin" and the "put option" would be formalised in appropriate security documents. Those documents were never prepared. I have not enquired as to the reason for this failure. As the officer whose duty it was to implement the approval, Mr Mullins should have ensured, so far as possible, that the documents were prepared, and executed before any advance of funds was made.

One of the pre-conditions to the advancement of funds required that the Bank receive an accurate costing of approved plans. The documents provided by W.T. Partnership fell well short of constituting an accurate costing of approved plans and this ought to have been obvious to Mr Mullins by virtue of three simple facts:

. The costings made by W.T. Partnership are described as "indicative" on the face of the costing document. (The word `indicative' carries the implication of suggesting something; it does not import precision).

. The costing schedules were far from the type that one would expect to see in connection with such a vast project, and the costing did not purport to be made on the basis of finally approved plans.

. The project was for the "design" and construction etc. of the complex. Hence it should have been obvious that the design was not fixed - it was part of the project. All that had been designed was the architectural element laying down the basic concept and basic specifications.

Before a crucial pre condition of the loan had been fulfilled, Mr Mullins signed the Rundle Mall Performance Guarantee committing the Bank to Myer Stores Ltd to complete the project whatever the cost. This was to cost the Bank dearly.

14.4.6 MANAGEMENT OF FACILITY

The scope of the review of these facilities did not include a detailed review of compliance with the policies and procedures relating to the management of the facility whilst in the management phase of the loan cycle.

14.4.7 MANAGEMENT OF NON PERFORMING FACILITY

The scope of the review of these facilities did not include a detailed review of compliance with policies and procedures relating to the management of this facility whilst in the non performing facility phase of the loan cycle.

14.4.8 CREDIT INSPECTION

The scope of the review of these facilities did not include a detailed review of compliance with policies and procedures relating to the credit inspection phase of the loan cycle.

 

14.5 OTHER MATTERS IDENTIFIED BY THE INVESTIGATION

 

Conduct of Mr D W Simmons

Mr D W Simmons was at all material times whilst a Director of the Bank also a partner in the firm Thomson Simmons and Co, Solicitors.

This Investigation has been advised of the fact that the firm Thomson Simmons and Co were engaged by REMM Group to perform work in connection with the Rundle Myer Mall project.

Section 11 of the State Bank of South Australia Act provides, in part that:-

"... a Director who has a direct or indirect pecuniary interest in a proposal before the Board -

(a) shall, as soon as he becomes aware of the proposal, disclose the nature of his interest to the Board; and

(b) shall not take part in any deliberations or decision of the Board with respect to that proposal."

Enquiries made by me of the firm Thomson Simmons & Co have resulted in my being satisfied that from about July 1988, Thomson Simmons & Co undertook legal work for and on behalf of REMM Group, principally in conveyancing matters, but also in connection with incidental litigation thereto. The work concerned the Rundle Mall Myer project. I also ascertained from Thomson Simmons & Co that the volume of this work in this period was substantial, and that the fees derived from it were also substantial. I was also informed that the work of Thomson Simmons & Co during this period did not in any way involve REMM Group in obtaining finance from the Bank.

Mr Simmons was not present at the critical meeting of the Board which approved the July 1988 Proposal. That Proposal was not considered again by the Board until November 1988. The Board Minutes on that occasion record that Mr Simmons declared his interest in the Proposal "... as his company, Thomson Simmons & Co, act for the REMM Group".()

I think it fairly obvious from the foregoing that the nature of any interest which Mr Simmons had in connection with a Proposal being considered by the Board was disclosed to the Board by his action on 24 November 1988.

Minutes of a meeting of the Board held on 27 July 1989 indicate that a Sub-Committee of the Board was formed in order to confer with a Bank Management Committee in connection with this account.() Mr Simmons was a member of that Sub-Committee. It is therefore highly likely that he participated in Sub-Board discussions in connection with the management of the matter and was one of the directors who had an intimate knowledge of the difficulties associated with the account.

As has been recounted in Section 14.2.3, Board meetings during the course of 1989 and 1990 frequently considered "proposals" in connection with the REMM Group. Some of those proposals were for an extension either in duration or amount of bridging finance facilities. Another such meeting considered a fundamental change in the financing package.

Mr Simmons has informed me, and I accept, that when, in meetings of the Board, formal Proposals were considered by the Board in connection with the REMM Group, he did not absent himself from the meeting. Furthermore, he has advised me, and I accept, that when such Proposals were being considered, he continued to act as Chairman.

I am satisfied that Mr Simmons received no direct or indirect benefit arising from the Proposals in question. I am satisfied that there was no basis on which Mr Simmons could have expected to profit, directly or indirectly from any such Proposal. As stated above, Mr Simmons was not present at the critical meeting of July 1988. The decision of the Board at that meeting effectively committed the Bank to the REMM Group in respect of Myer Rundle Mall Development. If Mr Simmons derived any benefit from his membership of Thomson Simmons and Co by virtue of the development, then that benefit arose out of consideration of the July 1989 Proposal by the Board - a consideration in which he took no part.

On the basis of the information stated above I am of the opinion that a conflict of interest, did arise and was declared. I am of the opinion that it is possible that a breach of Section 11(1)(b) of the State Bank of South Australia Act, 1983 occurred.

I am satisfied that if there was a breach of Section 11(1)(b), then it was technical in nature, and ought not be the subject of further investigation or action.

 

14.6 REPORT IN ACCORDANCE WITH TERMS OF APPOINTMENT

 

As directed by Terms of Appointment A(a) to (f) (inclusive), A(h), C and D. I have investigated circumstances that occurred over the period June 1987 to March 1991 surrounding certain facilities granted to the REMM Group.

For the reasons examined in this Chapter the Investigation revealed three fundamental flaws in the Bank's handling of the REMM facilities:

. Lack of adequate analysis of all risks;

. Lack of adequate analysis of commercial feasibility of the project; and

. Lack of understanding of the extent to which the Bank would be involved in the project.

The risks associated with these facilities, taken in their cumulative effect, were serious. While all project facilities have risks, the risks of this project were intensified by the level of funding required, and the unique characteristics of the project. There were numerous risks involved in the funding structure. The strengths that were identified did not on the basis of proper analysis compensate for the weaknesses.

The transaction was extremely complex. It is probable that Bank staff, or the Board, or both, did not fully understand the ramifications of the agreements into which they entered. For example, the Performance Guarantee to Myer, once signed, virtually forced the Bank to fund the project to completion regardless of cost. If this had been fully understood, it would have been gravely irresponsible for the Bank to have proceeded as it did. If it had not been understood, the cost of ignorance was very great.

Although the existence of the Performance Guarantee and the fact that syndicate funding was not in place was mentioned in the initial Board Proposal, they were not presented in a manner which conveyed the full implications of those actions, and accordingly were given considerably less attention than the circumstances warranted.

For the reasons given elsewhere in this Chapter of the Report, on the basis of the facts which I have set out and on the basis of the documents to which I have referred, I am of the opinion that:

14.6.1 TERMS OF APPOINTMENT A

(a) In so far as concerns the "Initiation of the Facility", Mr P F Mullins, as the person who prepared the July 1988 Proposal:

(i) Mislead the Board of Directors by failing to draw the attention of the Board to the qualifications to the valuations and estimates made by Colliers International Property Consultants in its report of March 1988().

(ii) Failed to exercise proper care and diligence in the preparation of the July 1988 Proposal in that:

. he failed to obtain a more accurate estimate of the cost of the construction of the project before writing the Proposal;

. he failed properly to consider and, or report on the potential and the extent thereof for cost overruns by reason of delay caused other than by reason of industrial disputation;

. he failed properly to consider and, or report on the potential for cost overruns notwithstanding the intention of REMM Group to enter into fixed price contracts for most of the work involved in the construction of the project;

. he failed properly to consider and, or report on the value for sale of the complex on completion; and

. he failed to explain sufficiently the risks which the Bank would undertake pursuant to the Rundle Mall Performance Guarantee.

(b) In so far as concerns the "Approval of the Facility", Mr K S Matthews, Mr D C Masters, Mr T L Mallett and Mr R L Wright, members of the Lending Credit Committee present at its meeting of 27 July 1988, failed to exercise due care in that they:

(i) Recommended the Proposal of July 1988 subject to certain conditions when on proper consideration of it they should have recommended against its approval by the Board of Directors.

(ii) Failed to issue a caution or advice to the Board that it was imprudent for the Board to approve the July 1988 Proposal because it involved exposure of at least $166.67M to one customer of the Bank.

(c) In so far as concerns the "Approval of the Facility", Mr L Barrett, Mr W F Nankivell, Mr T M Clark, Mrs M V Byrne, Mr R F Hartley, Mr R P Searcy, and Mr A G Summers, members of the Board of Directors present at its meeting of 28 July 1988, failed to exercise due care, in that they approved the Proposal of 27 July 1988 subject to conditions, when on proper consideration of it they should have rejected the said Proposal. The duty to take care was, in the circumstances of a high order.

(d) In so far as concerns the "Advancement of Funds", Mr P F Mullins failed to exercise proper care and diligence in that:

(i) He permitted funds to be drawn down before arrangements with State Government Insurance Commission for a 'put option' and a 'risk underpin' were properly documented.

(ii) He failed to obtain confirmation as to the accuracy of the project costings and construction timetable based on final approved plans before permitting funds to be drawn down.

14.6.2 TERM OF APPOINTMENT C

For the reasons stated in this Chapter, I am of the opinion that the operation, affairs and transactions of the Bank were not adequately and properly supervised, directed and controlled, by the Board of Directors of the Bank, the Chief Executive Officer of the Bank and those officers and employees of the Bank referred to in Section 14.6.1 above. In expressing this critism I note the limited tenure of Mr A G Prowse who was appointed to the Board on 1 July 1990.

14.6.3 TERM OF APPOINTMENT D

For the reasons which I have given, and in the respects which I have set out in Section 14.6.1, the information and reports given by officers of the Bank to the Bank Board were not, in all the circumstances, timely, reliable or adequate, nor were they sufficient to enable the Board adequately to discharge its functions under the Act.

 

14.7

APPENDICES