"Cluster f--- of conflicts"

"A senior Macquarie Bank official
last night told the Herald
he could not believe
the "cluster f--- of conflicts" the bank faced
after then Alinta chairman John Poynton
approached Macquarie on January 2
to be involved in a management buyout (MBO)."

Macquarie Bank is the model of modern financial enterprise. But this little model has got it's little tit in a wringer this time, or so it might appear from reports. The Macquarie entanglement with Alinta just gets more smelly.

A lucrative business partnership has been blown up by conflicts of interest. Michael Evans and Stuart Washington report: Conduct Unbecoming

JOHN Poynton and Bob Browning were the swashbuckling corporate conquerors from the west. After a string of David-and-Goliath conquests, Alinta's chairman and chief executive were on a roll.

Nothing, it seemed, was out of reach for Poynton, the doyen of West Australian stockbroking, or Browning, the driven corporate chieftain who had transformed the one-time West Australian Government gas monopoly into the country's largest energy distributor.

Through a series of audacious deals, Alinta's market capitalisation has grown from $360 million when it listed in October 2000 to a giant with a market capitalisation of $6.7 billion.

And along almost every step of the way, Macquarie Bank stood in the background, counselling, advising and taking fees, fees, fees.

But late last year, Alinta's management hatched a deal that crossed the line. It was a deal that, if successful, would deliver Alinta's riches into the hands of a few key managers along with Poynton and Browning.

And it was a line crossed so arrogantly that Poynton felt he could remain seated alongside the new chairman, John Akehurst, as a director of Alinta when the deal was announced on January 9.

Browning, too, felt he could stay on as chief executive. And Macquarie Bank entertained ideas, however fleetingly, of smoothly working both sides of a transaction. Wrong on all counts.

Within days Poynton and Browning were gone. Macquarie Bank, meanwhile, was caught in its worst reputational bun-fight since buying Sydney Airport in 2002. And the broader business community was coming to terms with a dark side of boom-time markets: how shareholders' interests can be put behind the ambitions of managers; how investment banks can turn from friendly adviser to potential predator; how projects hatched in secrecy and hidden from the market can unfairly dent the chances of other bidders.

And, finally, in a particularly bitter lesson for Alinta, how a furore about conflicts of interest can strangle at birth private equity approaches and management buyouts.

Late last year, Browning was coming under pressure with the failure of a spin-off called Alinta Infrastructure Holdings, which he was forced to buy back.

Facing questions over the sustainability of Alinta's model and with private equity firms on a debt-fuelled binge all around them, Alinta's senior managers came up with one more deal: a management buyout.

As the unfolding events of the past fortnight have shown, the actions of Poynton and Browning's management team and Macquarie Bank have lifted the lid on the inherent conflicts of interest in management buyouts.

Management buyouts are nothing new. Travel agency Flight Centre and retailer Brazin are just two local companies whose management bought back the farm last year.

In both cases, the companies were underperforming and the shares sagging. And in both cases, a major shareholder offered to buy out the minority shareholders. For minority shareholders, an offer to buy out underperforming shares at a premium to current prices can appear attractive.

But in proposing a management buyout, a company's leadership is acknowledging its failure to generate shareholder returns for all shareholders.

And having admitted that, they offer to buy the company so it will work for their own pockets when they can't for everyone else.

Alinta - a well-performing company - added something new to the mix, with a buyout only made possible by a wall of money from a confluence of growing superannuation funds and debt-fuelled private equity houses.

"Traditionally most management buyouts are companies divesting, companies in trouble, subsidiaries of international companies that sell bits off, or it was getting closed down and management bought it," says Peter Chilton, an analyst with funds manager Constellation Capital Management.

"Traditionally management buyouts tend to be smaller, or as a result of something happening. In this case you have management of a listed company, picking the eyes out of a listed company - I think what you're seeing is a bit different."

The differences are layers of conflicts, in which managers' personal ambitions are pitted against the interests of major shareholders; and investment banks paid for services can suddenly appear on the other side of the fence.

Is there a conflict in a management buyout?

The short answer is yes. In a management buyout, dangerous conflicts exist as soon as managers turn their mind to buying the company, no matter how well motivated their actions may be.

"If you intend to make a bid for the company you are working for, there's nothing wrong with that, I guess, because it could be of benefit to all shareholders," says Chilton. "But you can only really do that by saying, from this day onwards, in making a decision to join a consortium, you're in a privileged position and you have to resign."

In the case of Alinta, it is arguable both Browning and Poynton fell at this first hurdle. On November 30, the management buyout team, headed by John Poynton and Bob Browning, informed the Alinta board they were considering a management buyout.

But even when their proposal, backed by Macquarie, was announced on January 9, Browning and Poynton took Alinta's can-do attitude to new and ridiculous heights, appearing somewhat surprised by a vitriolic market reaction and none-too-subtle suggestions they should resign.

Stuart Turner, senior analyst with Challenger Managed Investments, said on the day the deal was announced: "My very simple, very traditional way of understanding things is that a board appoints a managing director to run a company - not to cherry-pick assets out.

"I would have thought, prima facie, that the board … would view that he has actually exceeded his brief and the question is why he was not asked to resign."

The market got its message through: Browning went on January 11 and Poynton went on January 12.

In a letter to Alinta last Monday, the Australian Council of Super Investors representing managers of $240 billion in assets, underlined the point: "The position of the previous chairman and CEO continuing in their duties and responsibilities whilst developing the MBO proposal was untenable."

Do directors face a higher hurdle in management buyouts?

Again, the answer is yes - with implications for Browning and Poynton. Under the Corporations Act, there is a clear onus on directors to avoid conflicts, full stop. Not just "manage" them.

In a position paper released this week the Australian Institute of Company Directors (AICD) states: "Directors must not place themselves in a position where there is an actual or substantial possibility of a conflict between a personal interest or a duty owed elsewhere and the director's duty to act in the best interests of the company."

On the face of it, this does not allow directors the possibility of addressing major conflicts through other methods, such as disclosing them or managing them. In this respect Poynton, in particular, faces close scrutiny.

On the evening of January 2, Poynton called Robert Dunlop, Macquarie Bank's key Alinta adviser, telling him a management team was considering being part of a buyout and sought the bank's interest. This was after the board had appointed JPMorgan and Carnegie Wylie since November 30 as Alinta's management buy out adviser and another bank, Goldman Sachs JBWere, had been unsuccessfully working on a management buyout for about two months.

Macquarie Bank made it clear this week that Poynton played a key role, stating: "Macquarie was also advised that all of Alinta's directors had been aware of the MBO initiative for some time and were receiving independent advice."

It then emerged Poynton had been instructed by the board not to speak to Macquarie. The conflict of interest is about whether Poynton and Browning were working in the interests of shareholders - as they have an obligation to do under the Corporations Act - or whether they were furthering their own plans.

The chief executive of the AICD, Ralph Evans, said in relation to the position paper: "The most important principle in the Corporations Act is that directors must act in the best interests of the company. It's a very small phrase, but it encompasses an awful lot."

Why is Macquarie Bank in such hot water?

In addition to various Corporations Act provisions about conflicts of interest, financial services licensees face a tough conflict of interest regime introduced by the regulator in 2005.

This not only means the Australian Securities and Investments Commission can chase corporations and individuals under the Corporations Act when it perceives there have been breaches in conflict of interest matters - and it has indicated it is making inquiries on this front - but it also has the power to place conditions on financial services licensees.

ASIC said during the week the law "requires financial services licensees to manage conflicts of interest. Where ASIC identifies conduct it reasonably believes might step outside the boundaries of the law, it can and will act."

On January 2, Macquarie Bank said it would consider being part of the management buyout team if the offer was considered friendly.

But even if Poynton's assurances about acting with the full knowledge of the board were not all they were cracked up to be, Macquarie Bank was courting a disaster of its own making, finding itself in a textbook conflict of interest.

On one side, Macquarie had obligations as the long-term, trusted adviser to Alinta. Its duty was to act in the interests of Alinta shareholders.

But as soon as it started considering participating in a management buyout, it was placing itself in a situation in which it would owe obligations to the management buyout team, and, if it participated with its own equity, obligations to its own shareholders.

Events of the past week have proved Alinta saw this as a conflict of interest, and Macquarie Bank felt the full force of the disaster it courted when the independent board members sacked Macquarie Bank from all future advisory work on Tuesday.

No matter how well-meaning its participation in the buyout talks - and Alinta has subsequently sought to assure the market that Macquarie's intentions were nothing other than friendly - Macquarie had obviously crossed a line.

And it had failed to do the simplest thing: avoid the conflict altogether.

The policy statement on conflicts of interest for financial services licensees states: "There may be situations in which conflicts of interest arise that are confidential and even amount to 'inside information' under the insider-trading provisions … it may be the conflict needs to be avoided by, for example, declining to provide the affected service."

At no stage has Macquarie publicly acknowledged that it had an obligation first to its client by either refusing to accept the role or by defending the company against a buyout.

Animosity within the bank was directed at Poynton and Alinta, but also, tellingly, at Macquarie dealmaker Rob Dunlop, the long-time pointman in the lucrative Alinta-Macquarie relationship.

One senior Macquarie insider said this week: "You can't act for both sides. Rob Dunlop's been an idiot."

Do these conflicts raise other issues?

The furore has been a salutary corporate governance lesson for boards and managers turning their attentions to management buyouts. No matter the merits of the transaction posed by Browning and Poynton, it has been mired in such outrage that their proposal appears to be in danger of falling over altogether.

The controversy also has rocked confidence among major corporations in the roles and motives of large investment banks as trusted advisers.

Sure, there was a high degree of scepticism about investment banks beforehand. But watching a trusted adviser - with a high degree of confidential information - even toy with the idea of becoming a buyout participant has given executives across the country pause for thought.

Ian Ramsay, the director of the Centre for Corporate Law and Securities Regulation, said this week: "Company directors are being surprised by these sorts of developments. Where we operate in Australia is a pretty concentrated market - [the directors] are in a new world where the banks understandably look to draw in a maximum source of profits, beyond advisory into [equity] participation."

Awareness of this conflict is reflected in the approach of other investment banks.

A spokeswoman for Babcock & Brown, Kelly Hibbins, said the issue of conflicts, between the role of a bank's advisory business and a bank's own financial interests, was "one of the reasons we're not in third party advisory … we are migrating our business model away from third party advisory".

Another controversial issue raised by the imbroglio is the thorny issue of continuous disclosure to the market. Should the potential management buyout have been advised to the market on November 30, when the proposal was first embarked on? Or on January 2, when Poynton first approached Macquarie?

Or on January 8, when Macquarie informed the board of its interest? (The market was informed the next day).

Fund managers have a clear preference that they are told as early as possible. But that has not been a position taken by companies approached by private equity groups.

Coles and Qantas both came under fire for their disclosure after word leaked of work being done on buyouts.

So how do shareholders protect themselves against the conflicts of interest raised in management buyouts?

Obviously the heavy lifting done by the independent directors at Alinta over the past two weeks shows the importance of a strong board to act in shareholders' interests.

It also highlights the need for managers to understand their own responsibilities to the board and shareholders, and for advisers to be very clear about where their allegiances lie. But for the AICD's Evans, the conflict of interest issues boil down to a simple proposition.

"There's a very clear, simple principle you can keep in mind: You work for the interests of the company. As soon as that is in any way compromised you have got to think really carefully: do you want to put yourself in that situation - and probably you shouldn't."

MacBank bites back on Alinta conflicts by Michael Evans

MACQUARIE Bank has launched a blistering defence of its reputation in the conflict of interest furore over its former client Alinta, saying it may have been excluded from defending a proposed management buyout so it would remain eligible as a bidder in the event of a sale of the company.

A senior Macquarie Bank official last night told the Herald he could not believe the "cluster f--- of conflicts" the bank faced after then Alinta chairman John Poynton approached Macquarie on January 2 to be involved in a management buyout (MBO).

The official's comments come after the bank took a defiant stance yesterday on its role in the conflict of interest controversy, saying it was doing nothing wrong switching from Alinta's trusted adviser to a potential predator in a sale of the company.

Despite a fortnight of criticism in which it was sacked as Alinta's adviser, Macquarie said it did not feel obliged to rule itself out of a role in a buyout, despite being paid by Alinta shareholders as their adviser for five years.

"Macquarie has always believed and continues to believe that the potential conflicts of interest are capable of being appropriately managed with the informed consent of the Alinta independent directors," Macquarie said in a statement. The bank said it recognised the potential conflicts of interest when approached about the proposal.

"In accordance with the bank's strict compliance protocols, Macquarie executives sought legal advice in relation to all aspects of Macquarie's possible involvement with the MBO proposal, including potential conflicts of interest.

"Macquarie has always made clear that it would not progress any proposal to Alinta in connection with the MBO other than on a friendly basis with the agreement of the Alinta independent directors and in accordance with appropriate protocols agreed with the Alinta independent directors."

Asked to clarify if the legal OK applied to Macquarie's role as adviser or participant in a buyout, the Macquarie official said it applied to both. Investors have questioned Macquarie's attempts to switch sides in the transaction from a trusted adviser to a principal, given its privileged knowledge of the company.

Asked if Macquarie did not consider that a conflict, the Macquarie official said: "The conflict exists absolutely but we are capable of managing it with the informed consent of the client. We weren't pretending the conflict didn't exist."

Asked why the client would do that, the official said Alinta was pursuing a sales process promoting the best outcome for shareholders, including appointing JPMorgan and Carnegie Wylie instead of Macquarie on November 30 as advisers, given Macquarie is a major infrastructure assets owner.

It may have worked. The source said Macquarie was interested in Alinta's assets.

See, Unrepresentative Swill (Part 3)