ARH Diversified Fund failure hits $50 million

Accounts reveal that Auckland Regional Holding's controversial "Diversified Fund Asset" was down $50,715,000 on plan for the 6 months ending December 2008. This includes the $25 million losses reported in the September 2008 quarter.

One helluva Christmas present for Auckland.

Sure some of these are reported as "paper losses", but you'd be a brave - perhaps even foolhardy - person, to bet your bottom dollar on results getting better any time soon.

Put simply, at the start of this financial year - 1st July 2008 - this ARH fund (which includes global equities, global bonds and some NZ cash assets), had a market value of $300 million. Now it's worth $262 million. The losses include losses in capital value plus losses against planned earnings due to the fact the investments performed so badly.

Put even more starkly, the DFA was fully established in December 2007, when it's market value was $309 million (because ARH put in about that amount in cold cash). This fund was established following ARC's majority vote decision to support this "material transaction". This vote was opposed by a significant minority of ARC councillors - including me.

So $309 million of regional savings - held in trust for public transport and stormwater investments - was invested in the stock exchange just over a year ago. And as at the end of December 2008 it was worth $262 million - without generating any revenues along the way.

If ARC had insisted ARH kept that money in the bank instead, earning 5% interest, that capital sum would have been worth $324 million by Christmas 2008.

A nice regional nest egg.

But instead it's worth $262 million. A cool $62 million less than if it had been left in the bank earning 5% interest.

You could buy a lot of new trains for that.....

Time to wind up Auckland Regional Holdings

The Auckland Regional Council's treasury - Auckland Regional Holdings (aka ARH) - has been getting some bad press lately: Ports profits down; huge losses on global bond and global equity investments; property industry decline impacting returns from proposed waterfront developments. I accept that this downturn has been significantly worsened by the global financial meltdown. But the seeds were sown for this failure 2 and 3 years ago. That was when ARH recommended to ARC:

1. that sweet-heart deal with Maersk (driven by an absurb combative attitude to Ports of Tauranga, and which has led to Ports of Auckland almost subsidising container handling the prices are so low, and Maersk laughing all the way to the bank - Cllr Walbran told us: "it's all about volume" - I say: "a million times bugger-all is still bugger-all..."), and
2. that around $300 million of carefully garnered public cash (set aside for public transport investment), be thrown to the wolves of international fund markets.

There was advice then, in front of councillors, that there were risks with these courses of action. Votes were taken in confidential meetings where there was significant opposition. But the majority won, and now the region reaps the consequences.

The problem now is that these reduced assets are not able to generate the returns anticipated and expected to fund the region's share of either the purchase of an effective electric rail system, nor its operation. Desperate measures are being considered including the rapid windup of the global investments - when paper losses will become real, but the region will have most of its money back.

So what to do?

It has always been an option for ARC to significantly reduce the role and workload of ARH, by transferring assets and responsibilities back under the direct control and management of ARC. ARC has a highly experienced and skilled bunch of financial managers, as well as those whose job it has been to monitor the performance and effectiveness of ARH itself. There is significant duplicated effort. There is also a lot of cost associated with the monthly, quarterly, and annual processes currently required between ARC and ARH.

ARH has already transferred one significant asset to ARC, and that is the waterfront parkland at the end of Wynyard Point (half under control of Auckland City Council, and half with ARC).

It is time to cut the losses imposed by the relationship between ARC and ARH, and by the conflicting purposes inherent in ARH:

• by transferring Ports of Auckland Ltd to ARC;
• by transferring all cash and financial investment assets to the ARC's own highly effective treasury function;
• and by moving Sea + City to the ARC, where it would be governed by the ARC's Transport and Urban Development Committee and expert staff.

The Port company would retain its own board (as would Sea + City) - as at present - and operate somewhat akin to the way ARTA now runs - governed by ARC, but at arms length.

Running Auckland Regional Holdings costs the region annually about $2.3 million in admin expenditure, it spends about $2 million annually in managing its falling global investments, and has authorised significant planning and consulting costs in their efforts to "optimise" return from private development of Auckland's waterfront. There's also the cost of running a whole layer of governance and the ARH Board whose responsibilities would largely shift to ARC and existing staff.

It's time to fix this.

ARC couldn't organise a booze-up in a brewery

"...ARC couldn't organise a booze-up in a brewery, even if they did get DavidBeckham over to pour the drinks. But it's true, apparently...." - that's what Jim Hopkins wrote in NZ Herald newspaper on the 11th December. And now the public waits while the Auditor General gets to the bottom of the Beckham matter. Everybody wants to know how much public money it cost, and who to blame.

Funny how this story obscures the really painful ARC story. Just a couple of days later, the NZ Herald reported: "...Plunging global share prices have wiped $25 million in three months from a $1.2 billion fund for public transport and stormwater in Auckland. The books of Auckland Regional Holdings turned red in the first quarter of the 2008-2009 financial year on the back of an investment exposed to emerging market shares...."

But nowhere in that report can you find a single quote from the ARC politicians accountable for the decision to invest around $300 million of regional savings in global investment schemes. The $25 million loss is "unrealised" at the moment. $25 million are the paper losses for September 2008. The ARC hasn't been advised yet what the losses are for the months of October and November 2008. But these months saw spectacular losses internationally. Could be another $50 million down the toilet. Makes the Beckham thing look like a Sunday School picnic by comparison.

It gives me no pleasure at all to have voted against this investment. I was one of a minority of councillors who opposed it. The decision was taken a couple of years ago - in the last term of ARC. The politicians in charge then are the same as now: Cllrs Bassett and Walbran sat on the ARH Board then (and do now), and Cllr Mike Lee was in the ARC Chair (as he is now). They led the voting in support of this risky investment.

I well remember how the debate went. What was extraordinary was that ARH was not only recommending investing public savings in global investments - they advocating taking out a big bank loan as well, paying the interest, and investing that money in global investments also. They really believed this was a sensible thing to do, and that they could beat the bank rate.

My experience of this stuff hasn't been significant, but what I know I learned as a councillor on North Shore City Council when we sold our shares in Auckland International Airport. This was sometime before the end of 2004. We got over $82 million. I remember our investment bank advisers were keen that Council should invest that money. "Maximise return", they said. But NSCC finance officers advised that the prudent action for a city council was simple. They advised we desposit the money in the bank - to minimise risk.

The emphasis was on risk minimisation. Not return maximisation.

That time, councillors took the advice of their officers. The money went into the bank. It has since been applied to North Shore infrastructure projects.

While ARC councillors were persuaded to take a risk with regional savings, they have not - yet - agreed to take out a bank loan and chuck that into international bonds. But Cllr Walbran reckoned it was an OK thing to do. His business restores old MGs. Tweedledum reasoned this way: "it's like me taking out a loan to buy MG car parts. I get more from selling car parts than the loan costs me. It's like that..." I wasn't the only one to question his judgement. Would you buy $300 million in MG car parts? Using someone else's money?

Anyway. The upshot was that a "Diversified Financial Asset" was set up by ARC's treasury subsidiary ARH - with ARC agreement to that material transaction. And now we hear there's a $25 million loss. But that's just the start of the bad news. Bruce Jesson must be turning in his grave.

We need that financial asset as security against the bank loan ARC will use to buy electric train infrastructure. That loan will be around $500 million. The plan is to pay the interest on that loan from fuel tax revenues. That part of the plan is OK. The problem the ARC faces is that the value of its assets is in freefall on international markets. How will the bank assess ARC's financial security? Perhaps we'll have to put up a regional park or the Ports of Auckland as security.

That is one of the biggest issues for 2009.