Garlick the Dalek jets in from Outer Space

By Shoeshine

Friday 10th September 2004

Shoeshine doesn't mean to make light of Access Brokerage clients' woes but some of the claims made during the fiasco have an other-worldly quality.

One of these is Bill Garlick's attempt to point the bone at the New Zealand Exchange for somehow failing to prevent the goings-on that are now interesting the Serious Fraud Office.

If Garlick who set Access up in 1986, has been a director ever since, and owns 91% didn't know what was going on, as he claims, how in the world would the exchange know?

Equally extraterrestrial are Garlick's claims that he tried to sell the business over the weekend and actually found some interested parties.

Imagine the conversation. "I've got a nice little discount sharebroking firm you might be interested in. There's a $5 million hole in the client funds trust account I've just had to tell the exchange about but make that good and she'll be right as rain."

How much Access might have been worth is a mystery that may never be solved.

Shoeshine hears Garlick turned down an offer last year of $1.7 million for it from Dorchester Pacific.

Murray Bolton sold a 20% stake to Garlick in February for a sum in the low $100,000s. But if it emerges, as many suspect, that the company had been losing money for years, it probably wasn't worth anything.

Garlick's comments about the exchange are disingenuous.

He was well aware that, under the new supervisory regime the exchange imposed on "market participants" last year, a bevy of exchange inspectors was due to descend on Access on Monday to perform the second annual audit.

The exchange suggests this would have brought the trust account activity to light.

Perhaps. But if, as many believe, the activity had been going on for years, clearly the first annual audit failed and it's unclear why the second would have been any more successful.

What is now clear is that Access clients' money had been used, "for some time," as liquidator Michael Stiassny put it, to fund Access' own operating expenditure.

This includes the installation, in March this year, of Scientific Software & Systems' state-of-the-art SecuritEase dealing and settlement system, for a seven-figure sum, apparently.

The exact details of how this was managed and kept quiet for so long will be fascinating but in the meantime the important thing for the industry will be to prevent any kneejerk regulatory reaction.

There have been some attempts to suggest the Access collapse was somehow caused by, or made possible by, the change to the exchange's supervisory system. Rubbish.

Under the old system, brokers had to get a Big Four accountant in once a year to audit the books and submit their clean audit certificate to the exchange. By some accounts, that audit was a pretty cursory sort of an exercise.

The new system took the annual audit in-house. The exchange recruited a team of specialist inspectors who know the market participant rules and can undertake a more detailed exercise with a wider scope.

But if someone is going to go to the trouble of inventing a completely fictitious set of books, it's arguable the most rigorous audit imaginable won't detect the true state of affairs.

To put it another way, if you're determined to break the rules, it makes little difference how many rules there are. Whoever was cooking Access' books broke a whole truckload.

For instance, market participants must meet strict capital adequacy rules or stop trading.

Shoeshine wouldn't imagine having a $5 million hole in your client funds account would allow you to qualify, but that didn't stop Access.

No later than two months after their annual balance date, market participants must also provide the exchange with a copy of their audited accounts.

Access would have filed these for its March year. It seems more than likely these were a work of complete fiction, despite the audit certificate.

If changing the rules, or making more, won't prevent what happened at Access, changes to the system can at least limit the potential damage, and it's these that exchange chief executive Mark Weldon is pursuing.

The ability to "borrow" a sum as large as $5 million from your clients' funds comes about because, under the present "on register" system, trades are settled broker-to-broker.

That means a parcel of shares that has changed hands is deposited with a registry for the three days until settlement. Until then, the money sits in the broker's client funds account.

In a big brokerage, says First NZ Capital, client funds and the firm's own money are handled by different sets of staff. The client balance is calculated daily, reviewed by the head of operations and referred up to the chief financial officer.

It wouldn't be impossible to use client funds for the firm's own purposes but a whole heap of people would have to be complicit.

In smaller firms, it's possible a single individual could pull it off.

Weldon proposes moving to a "central counterparty" system whereby if a client puts in a buy or sell order and it is executed on screen, the exchange or a depository is the counterparty to that trade.

The second change would be a move to a "delivery versus payment" model in which the buyer's payment is due at the time of delivery, typically three days after the trade, not at any time in between.

Of course, this wouldn't mean firms like Access would never handle their clients' money. But it would radically reduce the amount they held at any one time.

Weldon has been proposing these changes for some time but the industry has resisted, saying it can't see what risk would be mitigated. At least that's now obvious.

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