Stephen Bartholomeusz: You started in April last year and I assume that when you joined Allco you thought you were taking on quite a different organisation than you’re presiding over today? What did you think you were entering and how different has the experience been?
David Clarke: Well, the role that was established, both the board and David Coe had recognised that they were growing fast, needed some larger company experience, so my job and goal and objective when I joined was to aid the expansion of the group. That clearly changed this year to a whole different job and in business life and life in general, you often find yourself in places that you didn’t expect and you just, in my view, you have to respond to the particular challenge and just get on with it.
SB: But at what point did you realise how vulnerable Allco was to a change in marketing conditions as occurred last year?
DC: We spent a lot of time assessing and taking advice on what we thought would be the consequences of what seemed to be a dislocation in a relatively small part of the American domestic mortgage market and said “this might make debt slightly more expensive around the world, is it going to make it unavailable, is it going to create a liquidity crisis? That, we couldn’t see, so we looked at history and asked “when there’s been substantial dislocations in the past, has there been a drying up of the credit markets?” and the answer was only very, very briefly, so therefore we thought on the basis of that we could still keep going. As I say, we were still getting indications from advisors and also indications from investors that they were prepared to back infrastructure funds and general investment funds and that didn’t change until really January.
SB: You’ve said that the credit crisis has broken the Allco business model and presumably you weren’t just talking about debt levels. What else was flawed?
DC: The change in attitude around the world to organisations like Allco is such that… I mean financial services companies rely on confidence. Confidence is extremely important. Confidence has gone from large parts of the financial services industry and therefore you have to adapt to that new environment. Debt was the very significant level, and by debt I don’t mean just debt at an asset level, there was debt at a shareholder level with margin loans. The other thing is institutions have gone, so as we’re now out seeking to raise funds for an aviation fund and a shipping fund, investors are saying that they would actually like us to go and acquire new assets on their behalf. They’re saying “we’re not interested in those assets. They may be fine assets that you’ve got on your balance sheet, but we want new assets that the Investment Committee assesses within the mandate of the fund”.
SB: It’s been said that before you arrived Allco was a company run by insiders largely for the benefit of insiders, that David Coe and the other principals had in effect listed a private group without normalising its governance and its structures. Is that a reasonable perspective on it?
DC: I think it’s harsh. The reason being that they certainly didn’t view what they were doing in that way at all. However, I think they had operated as a private group for close on 30 years. They had little experience of the public company environment and what was expected from them. Remember also they were supported and praised by that same public market for a period after the listing of Allco, so your question suggests some sort of premeditation on their behalf and that is the bit that I wouldn’t agree with.
SB: I suppose what I was trying to get across was the entanglement of their private affairs and the public company affairs has been a real issue for you, hasn’t it, in terms of trying to unwind this ‘beast’ they created?
DC: They thought that everyone would see the distinction between those two sets of affairs with the clarity that they could see the separation and not realising the distance from it created in effect opaqueness in people’s minds if that makes sense.
SB: Yeah, I get that.
Robert Gottliebsen: David, on a very simple reading of the Allco balance sheet, there’s about $21 million worth of shareholders’ funds out of say $1.4 billion in total assets and we look at the wider balance sheet, the net tangible assets aren’t that different from that original figure, but the assets are $7.5 million. If you look at the market value of the listed assets, there’s actually a deficit in that area, but there’s a surplus in the paper profits in the shipping/aviation assets which probably adds in a total of net $90 million in the net assets of the value. Is that fair summary of the Allco situation?
DC: Bob, that is fair. I mean, those numbers are clearly articulated in the report and that is after very substantial write downs at 30 June. It was important in terms of moving forward from here for all stakeholders to be on the same page. That is, everyone had to have a very clear and stark understanding of the position the company was in.
RG: David, how do you and Rod Eddington and Bob Mansfield and the other directors sleep at night with such a low level of shareholders’ funds? Are you in danger of trading while insolvent?
DC: It won’t surprise you to know that we ask ourselves that question and test that issue very regularly and the reason that we have confidence that we’re not trading while we’re insolvent is that we’ve got a programme of asset sales and we look at our cash. We monitor that very closely. And for the foreseeable future, we have asset sales in the pipeline and see that those debts are paid. Also importantly, as you can imagine at a time like this, our bankers have gone through that business plan and cashflow very carefully as have our auditors and they support the signing of the account which can only occur if we’ve got that confidence. If you couldn’t agree long term, it’s not something that can go on forever.
RG: Have you got an agreement with your bankers and creditors that protects you as directors while you’re winding down the business and selling those assets and refocusing the business?
DC: No. I don’t think you can contract out of that liability. It’s a very significant liability and one that we’re clearly very, very conscious of.
RG: Gee, it’s tight David.
DC: It is tight, isn’t it?
Alan Kohler: Can you take us through your cash position? How much cash have you got coming in each month and how much goes out? Where is the cash coming from? How robust is the cashflow?
DC: Alan, I won’t take you through it in great detail and I’ll tell you the reason why. We have to repay, drop our senior bank facility from currently $700 million down to $400 million by June 2009. That reduction in debt is driven wholly by asset sales and the asset sales make up the dominant feature of our cashflow, along with some reinvestment I might pay to ships that are coming out of the ship yards and a small number of planes that are being delivered for leases. So the reason I don’t wish to be precise down to a monthly or quarterly basis on the cashflow is that I don’t want to give potential purchasers of assets some insight into when we need meet certain repayment hurdles.
AK: Can you tell us whether you’re cash positive or cash negative?
DC: We’re cash positive, but that is…
AK: On an operational basis?
DC: No, on an operational basis it’s cash negative. So we have to… we have three priorities in our business. The first is to sell the assets to pay down the debt and meet the cashflow requirements that we have. The second is we’ve got to raise equity into funds to actually create a business that creates income to go forward. And thirdly radically restructure the business. And we need to do all of those within a very tight time frame and with consummate execution.
AK: This probably sounds a bit of stupid question but why bother? I mean why not bring in a voluntary administrator?
DC: Ah, Alan, we believe that there is an opportunity still to create a business. It’s a path with a significant number of hurdles in it, but we still believe we can do that. In the meantime we also believe, along with - while they don’t explicitly say it but I think we can understand it - along with our bankers, we are the best people to manage this business. It is shrinking and it’s shrinking fast. We think that we can get the best value for the assets. We are the people who’ve got the best chance of getting a return or some substance back to the various stakeholders in the business.
RG: But David, doing what you’re doing, and I actually agree with what you’ve just said, but you’re taking an incredible personal risk in doing that.
DC: Yes.
RG: And that includes Rod Eddington and Bob Mansfield.
DC: It does. There is a risk and that risk is assessed, as I said, very regularly by not only us but all of our legal advisors and accounting advisors as well. And if that risk becomes beyond what we currently consider acceptable, then we won’t run that risk anymore.
SB: David, the picture you’ve painted just a moment ago of the state of the group and the one you’ve given in the presentation is of a pretty powerless kind of situation. When one looks at the way the banks have dealt with Allco as opposed to the way they’ve dealt with Centro or Babcock, they’ve actually given you a lot of time. Why is that? I mean why are they so tolerant? Why are they giving you twelve months?
DC: Having been through what we’ve been through the last eight months it didn’t feel that way. And, you know, costs of $27 million to get a renewal of the facility didn’t feel that way, so I think you’re being generous, Stephen.
SB: But they have given you time despite the fragility of the group.
DC: Well, I think first of all, I mean I haven’t had time here today to take you through what we think we can do. So in terms of trying to restore value or some value, it may not be a go-forward value, but it’s some value, you’ve got to stabilise your debt because otherwise no one is going to give you fair value for your assets. So first thing is you stabilise your debt. You also then get it down to an acceptable level. Then you say “maybe I’m putting some value back into my go-forward businesses so that if we were to sell them or move them, whatever going forward, they’ve got more value than they have today.” Because right in the trough of ill-liquidity you’re going to get the worst possible price for anything. So moving beyond that point is very, very important for the various stakeholders. And I thought it was important to paint… the realistic picture is a reasonably bleak one and this was not a time for corporate speak or gilding the lily.
AK: David, is there an element here that you and your staff are getting paid less than an administrator or a receiver would get paid and that therefore the banks are slightly better off?
DC: Oh no, I think Alan, we would be being paid more.
AK: They would take a fair bit. As Bob said, you're unprotected, whereas a receiver or an administrator would be protected, so there’s a big difference there. So I just wonder if the banks are approaching this pragmatically in some way?
DC: Oh, I think...they’re approaching on the basis that these companies are large, complex, leveraged and multiple relationships at asset and head company levels and their pragmatism suggests to them far better to let the people who are familiar with the assets and the situation to deal with them. And they will seek to keep a very close eye on what we do.
AK: And do you think that at the end of this process, David, that the banks will own some of the equity?
DC: Alan, I actually said at the outset of the presentation that I made on Friday, in the results presentation, that I was going to make no predictions of the future or give any guidance in terms of the outlook. By making that suggestion suggests a certain outcome.
AK: That’s right.
DC: I think the banks are not, in my assessment, in the mood to own equity in businesses, not the Australian banks.
AK: ANZ’s going to end up owning Tricom.
DC: Yeah. If they wanted to own the equity, I’m sure they could’ve knocked down our door and bought it at this point.
RG: David, can I ask you a couple of personal questions? First, did you simply not conduct enough due diligence when you took on the CEO’s job at Allco?
DC: I think with the benefit of hindsight, Bob, you’d have to say that’s the case, but the other thing is that notwithstanding the fact that people claim… we were all concerned about credit markets at the time that I joined. I don’t think there was a thinking person in financial markets that wasn’t and we knew that credits spreads had come in. We knew that there was a tendency for assets to be overpriced as a result of cheap debt. The extent to which that would play out in the current crisis was clearly not understood and I can confess it was not understood or recognised by me. I thought there would be a tightening of credit. I thought there would be a lift in margins, but I never envisaged the closing of debt capital markets.
RG: And secondly, with the benefit of hindsight again, what was Allco’s greatest single mistake do you think, in a specific sense? You’re looking back and you’re looking at the deals they’ve done, what was the one that really sort of did it?
DC: There are two – am I allowed two rather than one?
RG: Yes.
DC: There was a lot of focus on the assets that were purchased and they were purchased with significant due diligence around the cashflows associated with those assets and the cashflows associated with most of the assets have been very good. For example the property assets, the cheques keep arriving each month from very, very high grade tenants such as government and quasi-government institutions. Debt was put in place which went a long way to matching the term of those leases and commitment and those leases were long, so debt… I mean there were 15 year bond issues in the portfolio. The mistake was that those borrowings and those debt instruments included loaned of value convenant that moved a 15 year obligation by the lender down to something that needed repayment in 30 days of a result of reaching those covenants. So that’s the first thing. The covenants within the debt facilities turned the long term funding into short term funding and, just as a note, that doesn’t happen in the aviation portfolio and is only very limited in the shipping portfolio which is why those two are a part of the go-forward business and there is no debt in the private equity business at the Allco equity partners’ company level, is in actual fact cash.
The second thing is that in some limited cases, notwithstanding the gearing at the asset level, as the boom continued, there was an inflation in the equity associated with those assets and then the equity was geared. That was the second major error. In summary, there was the nature of the leverage and then the quantum.
SB: So far you’ve kept those core aviation and shipping businesses intact and I think you’ve just explained why you’ve done that. You presumably have had offers for them?
DC: When you get into the position we’ve been in, you get offers from lots of people for lots of things and they all start with two statements. The first is that they really want to help you and the second is that they can deal very quickly and that usually is the forerunner to an incredibly low offer. So there is keen interest in our shipping and aviation businesses, but not at a price which we truly reflects the value there in this business.
SB: But if you got an offer which did reflect the value as you see it, would you sell given that it would then mean you’d have no future as an ongoing business?
DC: Well, we would be effectively selling the business which is really the question you’re asking and would we accept an offer for the business or the heart of the business? If we thought that was a way of getting the best value, then we’d absolutely do that.
AK: David, you said you’ve got to reduce your debt, I think you said from $700 million to $400 million by middle of next year. Is that correct?
DC: That’s correct, yes.
AK: Do you have interim targets to meet along the way?
DC: Yes, we do.
AK: Can you tell us when the first one is and what it is?
DC: No, Alan, that’s the same answer to that one previously. Because we’re meeting them by selling assets and if the purchasers of the assets know when we’ve got to meet certain hurdles, then it gives them quite a lot of bargaining power. So we have assets … in the process of sale or lined up into that process that are in excess of the $300 million that needs reduction, so that we can mix and match and depending on what goes well and what doesn’t.
AK: What do you mean by lined up?
DC: Well, those non-core assets outside the shipping/aviation business and private equity business. There’s a suite of asset sales that are going. I think at the high point we had 37 different assets that were on the list for sale.
AK: What sort of things are we talking about?
DC: We currently, for instance, have all leasing which is the small ticket equipment leasing business, that’s for sale. It’s in the final stages of due diligence. We’ve got what we call our financial assets for sale, that’s the rump of the Mobius Program. It is another group of financial securities called the Gateway Program. We have real estate which is our share in a wholesale fund called Allco Wholesale Property Fund for sale which is a building in Sydney, the World Square building both the retail and office and a small suburban shopping centre, that’s for sale as well.
AK: Can you tell us roughly how much value is currently in due diligence?
DC: I don’t know the answer, Alan, off the top of my head to answer that. But it would be everything on the balance sheet that isn’t aviation or shipping or private equity.
SB: If you don’t meet those interim hurdles, does that trigger covenants?
DC: That is a default, very binding.
SB: And does it also relate to cost reductions? You’ve got to halve the cost base between now and…
DC: There’s nothing in our banking facility. There’re no covenants that go to a default or review event other than meet these payments.
RG: David, can I put to you two perhaps less penetrating questions? Firstly what would have happened to Allco had the Qantas takeover taken place? It was very close to taking place.
DC: Ah, I just caught the tail end of Qantas. My sense is that it would have been such a diverting transaction that the company would not have done a whole series of other things and that may have been very good. So the position would have been tied very much to Qantas and you know Qantas has clearly met the profit expectations for this year. Whether it meets next year I think is a matter of some speculation.
RG: So that when Qantas failed, Allco then went off and did a series of other things?
DC: Well, it had a number of other things already in train. None of these transactions, you know, appear and are consummated within a short period of time. They have very substantial lead up periods, so had the funds been allocated to the purchase of Qantas, that would have meant that they weren’t available to use on other deals and remember that the Qantas deal was covenant light in terms of the debt.
So the debt holders would not have been in a position to have enforced any of… even though maybe Qantas might have missed some of its profit hurdles wouldn’t actually have been in a position to enforce any of that debt. The other deals that were done were… There was the Con Edison transaction that we entered into. There was the Rubicon transaction. There was a rights issue for our Singaporean REIT. There was a further loan to a leasing… So there was a myriad of smaller things that were done. There was the acquisition from the Liebermans of the 25 per cent stake in Allco Equity Partners and the 50 per cent stake in the management company. All of those transactions which on their own they required sort of $50 to $60 million, but there was a myriad of them.
RG: OK. The second question is that shorters Allco seem to have incredible knowledge of the relationship with your bankers and other aspects of the company. How do you think that leaked out?
DC: The answer is I don’t know and I don’t think we’ll ever know. I know the Allco principals spent some time, trying to establish where the stock that they had margin lent or put up as security for margin loans had gone and where it was, who was lending the stock and they never found a satisfactory answer to that question. They have their own suspicions about it, but I don’t think they’ll ever know. It was clear that those close to some of our bank meetings were talking to the press because I would read from time to time in the press when we were having the meetings and what was decided at the meeting once we’d had it. But they were large meetings in the early days, very large, you know it would be uncommon to have a meeting with 30 or 50 people there.
AK: But David, the fundamental thing about the short selling is that after it the stock didn’t recover, so in a sense the shorts were right, weren’t they?
DC: I can’t disagree with you, Alan. Shorting is a very brutal mechanism for price discovery. And I’m not someone who’s spoken out against stock lending. I think all we should know as market participants how much stock is being lent, so what is the volume of it, so that we can…can use it as a decision-making tool around what’s at work in the market place.
AK: I wonder whether there’s actually been any securities lending in Allco for, I don’t know, the last three or four months.
DC: Oh no, I don’t think there has been because stock is only available to lend typically when there are institutional shareholders who are prepared to lend it or there are very substantial lines of stock which have been put into the market as security. So given that we have a largely retail share base, there is no single block or quantum of stock that can be used and put into the market.
AK: You’ve been very frank, David. It’s been great.
AFG Price at posting:
27.5¢ Sentiment: Hold Disclosure: Held
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