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Chapter 6
Investors' criticisms of the regulatory framework and the role of the
regulators and gatekeepers
6.1
This chapter details the views of investors as to who they believe
should be blamed for the collapse of Trio Capital. It highlights Trio investors'
assumption that the regulatory framework would protect their investment, and
their view that the regulators, the gatekeepers and financial advisers have
failed them.
6.2
Chapter 3 of this report noted the significant financial losses and
emotional distress of the investors who lost money in the collapse. This
section presents investors' views as to who is to blame for the collapse of
Trio Capital. These views are important for two reasons. First, they are
important for the public record: the voice of these investors must be heard.
Second, the views give an indication of discrepancies between investors'
expectation of regulatory protection and auditing transparency and what these
standards actually are. This issue of an 'expectations gap' is dealt with in
chapter 7.
Investors' criticism of SMSF framework
6.3
In explaining why there is a different level of protection for investors
in SMSFs, as opposed to investors in Australian Prudential Regulation Authority
(APRA) regulated funds, the government has highlighted the trade-off between
choice and risk. With Self-managed superannuation funds (SMSFs), there is
greater choice and more control in constructing an investment portfolio, but
with that comes responsibility to take necessary precautions.
6.4
This phrase derives from a December 2009 publication Investing
between the flags—A practical guide to investing.[1]
Upon releasing the guide, the then Chairman of Australian Securities and
Investments Commission (ASIC), Mr Tony D'Aloisio, commented:
It's just a metaphor but when you go swimming at the beach,
you will reduce the risk of drowning if you swim between the flags, similarly,
when you invest, you will reduce the risk of losing your money if you adopt the
investing behaviours identified in this guide which has been developed over a
long period of time.[2]
6.5
Ms Nicole McCann explained that her initial decision to invest in Trio
Capital was based on an understanding that the regulatory framework was in
place and there to protect her investment. She identified four aspects of this
framework:
Number 1: the fund was subject to supervision and due
diligence of APRA, the government body charged with providing oversight and
governance for financial service providers to minimise the likelihood of
financial losses to depositors, policy holders and superannuation fund members.
Number 2: the fund manager was appropriately licensed by ASIC, the corporate
markets and financial services regulator. Number 3: a long history of public
reports made by reputable research houses indicating solid performance of the
fund. And No. 4: the financial advice presented to me by my adviser made a
clear statement of risks and benefits of investing in the fund. It is my belief
that I was entitled to rely upon ASIC and APRA having applied sufficient due
diligence in reaching their respective decisions to license fund managers and
to approve the fund for Australian marketplaces.[3]
6.6
Similarly, Ms Bent told the committee:
We had our fund managed by a financial adviser and he thought
that the way it was invested was not going very well. He called us in to have a
discussion with him. He presented the reports of that fund's performance. I
remember asking at the time: 'How do we know these people do the right thing
and they're credible reports?' His response, which was quite reasonable, was
their whole reputation relies on them being credible and accurate with their
projections and with their reports. I trusted that. I also trusted that there
were a number of regulatory bodies in place. In Australia surely checks and
balances are in place looking after those funds and people cannot get licences
if they are not of good character and have the skills to run them. Based on
that and the reports from these investment houses, we agreed to move out that
money.[4]
6.7
The committee heard from some witnesses who suggested that the system
would be improved if there was notification as part of the investment
documentation that the investor was moving from one part of the regulatory
framework covered by compensation to another part that was not eligible for
compensation. Ms Julia Fellows told the committee:
Neither my husband nor I ever comprehended that there was
less regulatory protection for self-managed funds in pooled investment
arrangements than for individual superannuation accounts in industry, corporate
or retail funds. Given our conservative approach, we would never have gone down
the self-managed path if we had understood that this type of superannuation
savings vehicle was not regarded by the Federal Government as deserving of the
same safety net protection as other types of superannuation savings
arrangements. This fact had never been made known to us – there had been no
warning from the Government or the regulators that you invest, however
prudently, in your own self-managed fund at your peril. In the event that you
are the victim of fraud through absolutely no fault of your own - unlike the
rest of the community’s superannuation savings – your superannuation savings
have no protection whatsoever. This seems contrary to Australia’s proud
international reputation as a country with guaranteed protection for all
superannuation savings. Indeed, it seems incomprehensible to me that the
Government would facilitate the establishment of SMSF arrangements to encourage
the self funding of retirement, without putting in place the necessary
regulatory protection to afford such arrangements security in the event of
fraud.[5]
6.8
In evidence to the committee, Mr John Telford noted:
...five months after the Trio collapse...I received a letter
from the Taxation Office to say that I was invited to a public seminar for
self-managed super funds. I rang them up because I thought they had made a
mistake. I told them, 'No, I am in a superannuation fund,' and they checked and
said, 'No, you are in a self-managed super fund.' So I went along to that
meeting and that is when I discovered the rules and regulations, where the
trustee is ultimately responsible for his or her investments and information
like that. That is pretty vital information. Why did I not get that before? I
was never given the choice that there were two funds, and that one had
insurance cover and the other one did not. That is pretty astounding.[6]
6.9
Even more alarmingly, Mr Warren Daley noted that he was moved from an
APRA-regulated superannuation fund to an SMSF without any warnings of the
higher risk. He told the committee:
In July 2007 when we were moved from a pooled PST [pooled
superannuation trust] to a SMSF, we were not advised by Regulators, Auditors,
Custodians or Company Directors that we would be excluded from Commonwealth
protection in the event of fraud of theft, there was nothing in the PDS [product
disclosure statement] advising us of future risk exposure either. Why is it
that the matter of Commonwealth sponsored protection is not advised in all PDS
or prospectus documentation with the Superannuation Industry?[7]
Investors' criticism of the regulators
6.10
Several submitters expressed frustration at the failure of the
regulators and auditors to do their job properly. Mr Norman Upton, a long-time
BHP coal miner, told the committee:
The underlying causes of this collapse were fraud and
dishonesty. This has already been proven in a court of law. The regulating
bodies failed to have measures to protect exposed investors. In my view, ASIC,
APRA, and the auditors, directors and regulators of Trio were deficient in
their obligation to inform and, when needed, bring corrective measures at the
earlier point of time.[8]
6.11
On this final point, Ms McCann was highly critical of the government for
'pointing the finger of blame' at advisers and those who invested through an
SMSF, when responsibility should rest with ASIC, APRA, the auditors and
industry research houses. She posed the following questions:
How can it be that APRA can be considered to have completed
sufficient due diligence checks and ongoing supervision of fund to discharge
its statutory responsibility when it was aware for four years that the
valuation of the fund could not be substantiated by the principals?
...
What responsibility should be ascribed to the fund auditors (KPMG
and WHK) who released an audit report which gave the fund manager Trio a high
quality rating only three weeks before the fraud was uncovered?
...
How can ASIC be considered to have properly discharged its
obligations to conduct sufficient due diligence checks to provide protection to
the Australian investment community when it issued a licence to Shawn Richard,
who has since been found by the courts to have had no prior experience or
qualifications?
How can the financial planner be solely responsible for the
failure when industry research houses such as Van Eyk and Morningstar were
providing reports which gave the fund a high rating?
How is it that the government can differentiate between
victims of a fraud perpetrated by a group licensed by ASIC and supervised by
APRA on the basis of whether or not their investment vehicle was a supervised
superannuation fund?[9]
6.12
Mr Russell Smith took aim at the role of auditors and APRA in the
collapse of Trio Capital:
Auditors are there to do their job...APRA said that there was
gross incompetence on behalf of the directors. If there was gross incompetence
on behalf of the directors of Trio, then there is gross incompetence on behalf
of APRA in not being to apply the same rules themselves to ensure that those
audits were done correctly and that the funds were a viable entity.
The auditors over five years received millions of dollars in
fees to audit these companies. They audited them and believed and stated that
those funds were all there and that Trio Capital was a viable business and
entity. Yet, having done those audits, we now find that there was fraud from
day 1 of that company. If those audits had been done correctly, we would not
have had the problem of fraud and loss of money from investors.
If an audit company is held responsible and accountable for
what they are doing, then these sorts of things will not have the potential to
occur in the future. If they were held accountable for those funds and would
have to pay the losses that were incurred, then I am sure that the audits would
be done properly...If the legislation is changed and they are held accountable
and responsible for their actions, then these frauds et cetera will potentially
not happen. Therefore, there will not be the reliance on governments to support
either part 23 type actions or, down the track, to have to help out pensioners and
retirees who have lost their moneys and so have to go onto pensions.[10]
6.13
Mr Shayne Bonnie, who has lost significant superannuation savings as
part of a SMSF investment in the Astarra Strategic Fund (ASF), was also
critical of the action and inaction of the regulators and auditors. In evidence
to the committee, he noted:
APRA said...they did not respond when Trio could not provide
valuations. Multiple times Trio did not give them valuations and there was no
action taken. If they had taken action at any stage back then, then we would
never have invested in Astarra, because we invested after the valuations were
not received. ASIC, of course, licensed Shawn Richard. We know what has
happened there. Research houses were giving glowing reports on Astarra. The
research was presented to us by Tarrants. It was no different from research
that you would see for BlueScope, BHP or Rio. The reports were glowing.
Auditors were signing off on Trio. KPMG signed the most recent audit a couple
of weeks before ASIC froze the fund. Now you have Trio directors in front of
the courts. The auditors are supposed to be auditing the process. These guys
obviously were not following the process, and yet KPMG were telling us that
they were.[11]
6.14
Mr Nicholas McGowan, who with his wife established a self-managed
superannuation fund with a significant portion invested in ASF, was also
scathing of ASIC. He told the committee:
Our losses have come about by investing in a fund that was
licensed by ASIC a licence, I understand, that was one of only 13 such licences
granted the other such licences being granted mainly to banks. This licence was
given to Shawn Richard a young Canadian traveller who claimed to have a finance
degree from a Canadian university later to be proven a false statement. For ASIC
to grant such a licence I would have expected that this fact would be
cross-checked. The fact has emerged since that Richard was also connected to
several suspect companies, schemes and individuals who had already been
involved in defrauding investors in many other countries which was also not
investigated by ASIC prior to giving him such a licence. If this had been done,
surely the licence to manage investor funds would not have been granted.
...
To be defrauded by a government licensed fund means that we
have no faith in a financial regulatory system, which we thought was the best
in the world. We also feel that the government has a duty to reimburse all
investors in Trio Capital funds, given that a government body in ASIC has
allowed this fund to operate under a licence granted by them. The fund has been
acknowledged as a fraud by Minister Shorten when he announced the compensation
package for investors through APRA regulated superannuation funds. Our view was
further strengthened and our disappointment heightened when we learned that
APRA and ASIC had concerns about the unit pricing of the fund on three separate
occasions, all prior to us investing, and nothing was done to intervene in the
operations of the managed fund. If action had been taken and the fund frozen
and investigated at the time, then all of us here today would not have lost the
money we have.[12]
Investors' criticism of the auditors
6.15
The committee heard from several individual investors in Trio Capital
that the gatekeepers failed to do their job properly. Chapter 4 noted that two
of the three regulators apportioned significant blame for the collapse of Trio
to the gatekeepers. It also noted the gatekeepers' rejection of these
arguments.
6.16
Several submitters were highly critical of the role of the auditors in
the collapse of Trio Capital. Mr Colin Warne, notably, wrote that:
Each auditor stated that they were satisfied that the
financial statements represented a true and fair account of the financial
affairs of the fund...[but]...for six years, the funds issued audited financial
statements that, arguably, were a fabrication.[13]
6.17
Another submitter, who withheld their name, stated:
In our opinion the examination of the roles ASIC, APRA and
the auditors such as KPMG & WHK played needs to be examined, these parties
as far as we are concerned failed in their Duty of Care to the investors. They
did not undertake or apply correct procedures or protocols when it came to
compliance and/or auditing.[14]
6.18
Similarly, Mr Smith argued in his submission:
In my opinion you are starting at the wrong end by focusing
on the Financial Planners, instead of beginning your examination on the role,
effect and impact of ASIC, APRA and the auditors such as KPMG & WHK who all
failed in their Duty of Care to the investors. They did not undertake or apply
correct procedures or protocols when it came to compliance and/or auditing.[15]
6.19
He directed further criticism at the auditors in his verbal evidence to
the committee:
I went through a financial planner organisation and, as in my
statement to the committee, I do not hold anything against the financial
planner. I believe they could not have done any more than they did to
understand what the market was and what the companies were that they were
investing in. They did their due diligence. They relied on all of the reports
that came from either ASIC, APRA or the auditing companies to ensure that the
investments were sound and correct.
...
You rely somewhat on looking at the documentation in terms of
your return on those investments. We did receive statements on a regular basis
as to where we were at with our investments. Those were being supplied through
Trio to our financial planner and then on to us. Again, those statements were
audited.[16]
6.20
Mr Shayne and Mrs Tracey Bonnie were also critical of the role of the
auditors:
Auditors signed off on Trio. KPMG signed off on the most
recent audit a few weeks before ASIC froze the fund. Trio directors are
currently in front of the courts because of the way they ran their business and
yet the auditors were telling us back then that Trio was compliant.[17]
Committee view
6.21
The committee believes that the capacity of auditors to identify and
highlight fraud is limited. This is apparent from the evidence provided by the
auditors' themselves to this inquiry. Based on the auditors' role in the Trio
Capital case, the criticism expressed by many investors towards the audit
certification process is very much understandable.
Investors' criticism of financial advisers
6.22
Unsurprisingly, many Trio Capital investors vented their frustration at
financial advisers given that they invested on the basis of their adviser's
recommendation. Mr John Telford told the committee that:
Most of the people that are affected that I know of put their
trust in a professional financial adviser. So I got on the telephone and I
phoned around to different people that I know and I checked with people in a
self-managed super fund and people in a regulatory fund, and most of them
agreed with my misunderstandings of what I was in. I thought I was in
superannuation. I did not even know that I was in a self-managed superannuation
fund. If I had heard the name 'self-managed', I would not have thought that to
be a noun or a product—something happening rather than a product. Also, I
talked to people from both camps and nobody knew about fraud insurance or fraud
or that your money can disappear. So I think that, on the one hand, the
government bailed out for the regulatory and that was just a stroke of luck for
those people that happened to be in the APRA regulated. For us that are missing
out it seems like a difference was made out of information not available before
this crisis happened in the first place. I would like to see that
established—that there really is no difference between the two lots of
investors.[18]
6.23
Another submitter, who asked for their name to be withheld, noted the
difficulty of understanding the financial investment:
I regret not being more financially sophisticated myself.
Unfortunately I trusted the professional financial advisers in the way I trust
medical professionals. In the same way that it is unreasonable to expect
members of the public to have in-depth knowledge of neurosurgery, so is it unreasonable
to expect members of the public to have in-depth knowledge of sophisticated and
confusing financial matters. All of my energy has gone into trying to raise two
children to become decent law-abiding citizens. I was mother and father to
them. I did this while working fulltime instead of going on a parenting
pension.
I tried to educate myself on financial matters but simply did
not have the time or energy to succeed.[19]
6.24
Ms Julia Fellows, on behalf of her mother, wrote:
Unfortunately, neither my husband nor I were particularly
knowledgeable at that time about complicated investment matters and so we put a
high degree of trust in Mr ... as our investment manager.[20]
6.25
Mr Rodney Denniss, another SMSF investor in Trio, was asked whether upon
moving his funds out of an industry fund to invest as an SMSF, he sought any
advice from the industry fund about the risks. He responded:
No, I did not. I just jumped at the opportunity to have some
kind of input rather than having no input. When the opportunity arose, that was
my intention. I just wanted to get a seat to have a look at what was going on.
I guess I mainly wanted to have some kind of small involvement. I am sure I
thought I would do better.
...
I thought there was a slightly greater risk, but there is a
risk in just generally investing each year. There is a risk element when I
adjust the portfolio every year. If decisions were made to go with my adviser
or to baulk at something and say, 'Maybe not that. Maybe something else,' not
knowing what it was, if I baulked at something I would say that. This might be
a naive belief and it seems that it is, but I thought that everyone in a super
fund in Australia was pretty safe because we have regulatory bodies.[21]
6.26
Mr Denniss noted that no one had told him that as an SMSF he was not
entitled to the same level of regulatory protection as APRA-managed funds. He
did not ask about the level of regulatory protection he would receive as an
SMSF as he assumed that given the compulsory superannuation system, the
protections would be uniform.[22]
6.27
These issues of SMSF investor knowledge and understanding are revisited
in chapter 7. They represent a significant challenge for the financial advice
industry and for ASIC and the ATO.
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